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Home / Candlestick Pattern / Dark Cloud Cover: 5 Actionable Trading Strategies + 2 Variations

Dark Cloud Cover: 5 Actionable Trading Strategies + 2 Variations

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Dark cloud cover is one of the bearish reversal patterns.But there are one thing we have to be clear first that bearish reversal patterns do not mean the market will reversal certainly. In fact, the market rarely turn to a new trend right away when a bearish reversal pattern appears. The trend turns along with the market expectation, and it’s a slow evolution process by stage. That is also the right way to understand all the technical analysis.

This article tries to introduce the dark cloud cover pattern in detail and it mainly contains:

Initial Pattern

Definition

In most case it appears after a uptrend or the top of a congestion band. And there have to be two candlesticks to form a initial dark cloud cover.

  1. The first one is bullish candlestick and the second one is bearish candlestick.
  2. The open price of bearish candlestick must be higher than the high price of the bullish candlestick.
  3. The close price of bearish candlestick should be close to its low price and be lower than the bullish candlestick close price.
Initial Pattern-Example-1

See the chart below. It is GBPJPY daily chart in 2013 and it shows what a initial dark cloud cover looks like.

The definition of initial dark cloud cover

  1. The candlestick A is bullish and the candlestick B is bearish.
  2. The high price of candlestick A is153.62, but the candlestick B opens at 153.78 which is higher than 153.62.
  3. The candlestick B closed at 153.16 which is much lower than the close price of candlestick A 153.61.

However, there are some arguments about the definition. Some traders think that the bearish candlestick must close below the mid-point of the bullish candlestick body. That is called standard dark cloud cover pattern. They think other dark cloud cover patterns are weak and need more time to further confirm the bearish power.

Initial Pattern-Example-1

See the chart below.

The definition of standard dark cloud cover

It’s USDCAD H1chart. Candlestick A closes at 1.06470, but B opens at 1.06490 which is higher than 1.06470. And obviously the candlestick B close below the mid-point of candlestick A real body. So here they forms a standard dark cloud cover pattern.

The price tries to break through the previous highs and it does create a new high. But unfortunately, here the dark cloud cover shows the huge power of bear, the price begins to drop sharply after the pattern formed.

Variations

In fact, there are many non-standard patterns, they all are the variations of the standard dark cloud cover. They could also be called dark cloud cover. Why? Because different market has different volatility. If there are many gaps in the market such as commodity futures , the definition will be more strict.

However, in forex and stock market, if the bearish candlestick open price is equal to or little lower than the bullish candlestick close price, it is still can be called dark cloud cover.

Variation 1

See the variation 1 in forex market.

The definition of dark cloud cover variation 1

This is XAUUSD H1 chart. The price oscillates in the ranges of 1091-1100, and tries to break through the 1100 integral price for three times at A, B,C. But they all failed at last and left long upper shadows, traders bought at the shadow all trapped.

When the price tries to break through the 1100 for the fourth time at D, first, it forms a middle bullish candlestick E, which engulfs the preceding three small candlesticks. Then the market opens as the same price as the candlestick E close, but it does not keep moving up, the price goes down instead. Finally the candlestick F closes below the mid-point of candlestick E’s body. The candlestick E and F form a dark cloud cover variation 1, and after that the price drops to the range bottom quickly.

So here the definition of variation 1 comes.

  1. The bearish candlestick opens equal to or little lower than the bullish candlestick close.
  2. The bearish candlestick closes below the mid-point of bullish candlestick body.

Here the dark cloud cover formed at the strong resistance zone and thus confirmed the effectiveness of this resistance.

So it’s a good opportunity to do a swing-trading here. Sell when the first candlestick after the dark cloud cover opens, set the goal at the price range bottom, and set the stop loss above the high of dark cloud cover as the following chart shows.

Trading example of dark cloud cover variation 1

Variation 2

The below chart shows how the dark cloud cover variation 2 formed.

The definition of dark cloud cover variation 2

The long bullish candlestick A breaks through the previous congestion band resistance C and closes at the high of that day. Next day the market opens with a little up-gap and tries to break through the previous high resistance D, but it fails at last. The candlestick B closes almost at the low of the day but above the mid-point of the bullish candlestick A’s body. The candlestick A and B form a dark cloud cover variation 2 here.

So here it comes:

  1. The bearish candlestick opens above the high of the bullish candlestick
  2. The bearish candlestick closes above the mid-point of bullish candlestick body.

In this case, it usually means that the bear is not strong enough to beat the bull. The dark cloud cover is weak and need to wait for more candlesticks to make a further confirmation. However, when the confirmed signal appears, the best trading opportunity has been expired. So this kind of variation trading significance is not so valuable compared with standard dark cloud cover or variation 1.

Simple Trading Strategies 

Example-1

In fact, there is a very similar candlestick pattern—bearish engulfing.

The standard dark cloud cover opens above the high price of the bullish candlestick and closes below the mid-point of the bullish candlestick  body. But if the market goes down more, the bearish candlestick closes below the open price of the bullish candlestick, it forms a bearish engulfing. In that case, the bearish candlestick body engulf all the bullish candlestick body.

Differences between dark cloud cover and bearish engulfing

In general, the bearish power of bearish engulfing is much stronger than dark cloud cover. Because it means the power difference between bull and bear is much bigger.

See the chart below.

Trading dark cloud cover and bearish engulfing

It’s AUDUSD H4 chart. The price strongly rebounds with 2 long bullish candlesticks but resisted at the previous high. A dark cloud cover pattern forms at A , but the market does not drop right away. The next second star candlestick shows that the price tries to break through previous high again, and the long upper and lower shadow shows that the bull and bear fight hotly. The first candlestick after the star up-gaps. However, the price rises a little then goes down quickly and closes below the previous open. They form a bearish engulfing at B. The dark cloud cover and bearish engulfing confirm each other, the price begins to drop from here.

Then look at C and D. The price rebounds to the 61.8% Fibonacci retracement and forms a dark cloud cover at C. Then a middle bullish candlestick covers most of the previous bearish candlestick body. But the bull does not last long, the next candlestick waves sharply and covers all the previous bullish body when the market closes. Thus forms a new bearish engulfing at D. The price begins to drop sharply again after the bearish engulfing.

In general, the bearish engulfing pattern has more reversal smell than dark cloud cover pattern, so it’s more worth trading with bearish engulfing than dark cloud cover in most case.

For this example, traders could sell when the first candlestick after the dark cloud cover opens, and add position at the first candlestick after the bearish engulfing.

Of course, it does not mean entering the market just according to the dark cloud cover pattern. In fact, here some additional conditions were added when decide to trade. For example, look at C and D area:

First the market is in the down trend, second the market rebounds to the 61.8% Fibonacci retracement area. Then the dark cloud cover appears. The rebound was more likely to be end here considering the three signals. And if the risk-return ratio is not bad here, it is worth trading certainly.

Example-2

Although the dark cloud cover is a kind of reversal patterns, it does not mean the market will drop right away when it appears. When the dark cloud cover resistance is up-broken, the market will be more likely to continue moving up.

See the chart below.

Dark cloud cover is up broken

The XAUUSD forms a dark cloud cover after the A-B rise, then it retraces to the 50% Fibonacci retracement of A-B, the price begins to rise again leaded by a bullish engulfing pattern.

But the price is resisted at the high of the dark cloud cover and it stops moving. Later a long bullish candlestick breaks through and closes far above the resistance. The market keeps uptrend.

Here the high of the dark cloud cover turns to be a resistance, and once it is broken, the market will be more likely to keep rising.

The resistance, however, will become a support when the market uptrend ends and begins to drop. The price may rebound from this place.

In this example, the price also does so. See the chart below.

Dark cloud cover resistance turns to be support when it is up borken

It’s XAUUSD daily chart. The H4 chart dark cloud cover forms at the circle A in daily chart as the above picture shows. The price begins a five-month rise after breaking through the dark cloud cover. And it comes back to the circle A eleven months later. Then the price begins to rise again. The dark cloud cover high price which used to be a resistance becomes a support here.

There are two trading choices for this example. One is to sell when the dark cloud cover appears, one is to buy when the dark cloud cover up-broken.

In fact, there are many similar cases in market, are they all valuable trading opportunities?

See the up-broken first.

It’s a basic common trading model to follow the uptrend and buy when the price break through the resistance. Here the resistance comes from the dark cloud cover.

Basic dark cloud cover trading model in uptrend

Here is an example how it works.

Trading example when dark cloud cover is up borken

It’s USDCAD daily chart. The price rises quickly from 21/11/2014 and forms a dark cloud cover on 16/12/2014. Then the market comes into a small congestion band, the price tries to break through several times but all failed till a super long bullish candlestick appears on 02/01/2015. This long bullish candlestick itself also confirms the breakout.

So how to trade here?

Buy when the first candlestick after the dark cloud cover opens. Set the stop loss below the support. In this example, it could even be set at the low of the long bullish candlestick.

And as expected, the price keep rising after the breakout.

Example-3

In the above example, the market itself is up-trend. Sometimes traders will grasp the market top if they take this trading strategy–sell when the dark cloud cover appears. If they simply and quickly view the historical chart, they will make a deep impression on how many profits they will get and how it works efficiently by using this strategy. So attractive, isn’t it?

But once they really use this strategy, they will find that things are not easy. Traders will slip those failing things automatically because of some psychological factors.

See the chart below.

sell when dark cloud cover appears-failure-1

It’s AUDUSD H4 chart. The market is uptrend and a dark cloud cover forms at A. But the market does not go down, however, it continues to rise after two candlesticks at A. When it comes to B, a new dark cloud cover forms. The market still does not go down much, it continues to rise again and even create a new high after the small range.

If traders choose to sell in those case when the dark cloud cover appears, they will not have enough space to get profits and be more likely to lose their money.

So what should traders do then? Buy when the price up-broken.

Example-4

See the next chart. It’s also AUDUSD H4 chart.

sell when dark cloud cover appears-failure-2

First, the market is uptrend. And the dark cloud cover forms at A,B and C. It’s hard to profit if simply sell when the pattern appears.

Why? Because it’s a obvious uptrend market. Never try to sell in those market, although it’s a reversal pattern. The right choice is to buy when the dark cloud cover high resistance is broken.

If traders really really want to trade this kind of market, they’d better use some other filterable methods.

Example-5

However, in the down trend market, things will be totally different.

The dark cloud cover usually appears when the price rebound. If it meets some important resistance, the rebound will be more likely to be end. The dark cloud cover here has great trading value.

Let’s see how it works.

Dark cloud cover trading example 1 in down trend

It’s GBPUSD H1 chart. The price drops from A to B, so draw its Fibonacci retracement and will find that its 50% Fibonacci retracement locates at 1.5428. It means 1.5428 will be a potential resistance once the price rebounds. The low price of D is 1.5429, it’s also a resistance. They confirm and verify each other. Later the price rebounds from B but it’s resisted at 1.5435, and a dark cloud cover pattern forms at C which is around the above two resistance. From then the market stops moving up and begins to drop.

The logic behind this kind of market is easy to understand. First the whole market is in down trend, then focus on how the market moves when it rebounds from B. If some bearish signals appear around the important resistance thus confirm each other, then this rebound will be likely to be end here. And this place could be a potential entry.

The below picture shows its trading model.

Trading model combined bearish signal with down trend

In this example, when the dark cloud cover forms at C, it is a confirmation to 50% Fibonacci retracement of A-B and the low of D.

In terms of trading here, sell when the first candlestick after the dark cloud cover opens, and set the stop loss above its high price.

Trading Strategies Combined With Other Methods

Individual candlestick could be used to analyze and trade, but once combined with other technical methods and several different methods confirm each other, the judgment about the market will be much more accurate. Dark cloud cover is no exception. The common technical methods include trendline, MA, Fibonacci, chart patterns, indicators and so on.

1.  Combined With Trendline

In general, there are two kinds of straight trendline—horizontal trendline and sloping trendline. It could be resistance or support. Because of the reversal character of dark cloud cover, it usually combined with resistance trendline.

Example-1

See how to trade with it.

Trading example combined dark cloud cover with down trendline

Look at the trendline in the chart. The market is in strong short-term uptrend when it move up to the trendline with a long bullish candlestick, but the next candlestick fails to break through the trendline and finally closes below the mid-point of the bullish candlestick body. They two form a dark cloud cover, which shows the huge resistance here and confirms the trendline.

The later market also proves this analysis. The price rebounds again weakly after the dark cloud cover, and soon begins to go down even create a new low.

In terms of this example, the following steps should be followed.

  1. Find the highs of A and B, draw a trendline
  2. Pay attention to how the price moves when it is close to the trendline
  3. Dark cloud cover appears nearby the trendline, thus confirms the trendline resistance
  4. Sell when the first candlestick after the dark cloud cover opens. Set the stop loss above the trendline and dark cloud cover high, the bollinger bands or ATR indicator could be used to filter the market noises when set the stop loss if necessary. Set a goal price or choose to use trailing stop.

The below picture shows the trading model.

Trading model combined dark cloud cover with down trendline

Besides this kind of down trendline, the dark cloud cover will also appears around the up resistance trendline.

Example-2

See the chart below.

Dark cloud cover combined with up trendline

The price moves close to the trendline and formed a dark cloud cover pattern, then it drops quickly due to the resistance. It’s not a good idea to take short position here. Why? As said before it is a uptrend market.

It seems that dark cloud cover is useless here.

Is it? No…

First, the dark cloud cover here could be a signal to reduce long position or move up stop-loss. Second, buy when the price break through the dark cloud cover high resistance, it cloud be a entry for long position traders.

In this example, the price keep moving up after a small and temporary retracement and create a new high soon. It’s not strange, because it’s uptrend.

In fact, what used more in the real trading is horizontal trendline. It usually forms by the passed the previous high or low line.

Example-3

See the chart below.

fasle breakout-combined dark cloud cover with horizontal trendline

The price broke through the previous high but does not last long, the next candlestick closes below the mid-point of bullish candlestick body. So the two forms a dark cloud cover pattern, then the market begins to go down and the first goal price is the price range bottom.

In fact, here the dark cloud cover forms a false breakout.

Fasle breakout trading strategy model-combined dark cloud cover with horizontal trendline

Of course, it does not mean once the dark cloud cover appears at the price range top, the price will go down. When the price break through its high, it’s more likely to be continued.

Besides this kind of price range top, dark cloud cover also appears when the price rebounds.

Example-4

Look at the chart below.

Rebound with dark cloud cover in down trend

When the price stops falling at A and begins to rebound, then the A has been an important point. When the price is above A ,once it drops, A will be a support. When the price is below A, once it rebounds, A will be a resistance.

In this example, a big bearish candlestick broke the trendline support, so the trendline turns to be a resistance once the price rebounds. The price does rebound at B and breaks the resistance with a middle bullish candlestick at C. But the next candlestick eats most of the bullish body, and they forms a dark cloud cover, which indicates traders may dump their chips here.

Here the dark cloud cover and resistance trendline confirm each other, so sell at the first candlestick after the dark cloud cover, and set the stop loss above the resistance.

The followings are the dark cloud cover trading strategy steps here.

  1. Look for the important resistance after the price go down.
  2. Pay attention to how the price moves when it meets the above important resistance. For example, some bearish signal such dark cloud cover, long upper shadow doji, bearish engulfing and so on( if the patterns are not bearish enough, you’d better wait for more confirmation)
  3. Sell when the first candlestick after the dark cloud cover opens, set the stop loss above the resistance, use the goal price or trailing stops.

The below picture shows its trading model.

Dark cloud cover trading strategy model in down trend

( To understand this model deeper, please make a reference to the above example)

Example-5

See another example.

Dark cloud cover trading example 2 in down trend

First, the price is in obvious down trend. Find the low price A, draw a passed A horizontal trendline. It is called R/S line. When the price down break A and drop to B, it begins to rebound. Pay attention to how the price moves when it moves close to the R/S line.

In this example, the price tries to break through the resistance but failed. It forms a dark cloud cover at C. It is a confirmation to the resistance, which means the market would be more likely to stop rebounding and begin to drop again.

So here the trading opportunity comes. Sell when the first candlestick after dark cloud cover opens, and set the stop loss above the resistance, use the bollinger bands, ATR or some other indicators to filter the market noise if necessary.

2.  Combined With MA

In fact, MA could also be called trendline in some ways.

In the uptrend market, MA could be support. In the down trend market, MA could be resistance. So if the dark cloud cover meets the MA in the falling-rebounding market, it usually play a role to confirm the MA resistance. The dark cloud cover here could also be a entry signal.

Example-1

See the chart below.

Trading example 1 combined dark cloud cover with MA

It’s USDJPY H4 chart. The price is in down trend. It begins to rebound from A, and up breaks MA120 with a middle bullish candlestick at B. But the next bearish candlestick almost eat all the real rises of the bullish one.

They two forms a dark cloud cover and shows the strong power of bear.

The first candlestick after the dark cloud cover is still a short position entry.

Example-2

See another example.

Trading example 2 combined dark cloud cover with MA

It’s AUDUSD H4 chart. The market is still in down trend, it rebounds from A but stops at B, and forms a small congestion band where stands many small candlesticks. Then a long bearish candlestick break the balance and it begins to go down again. Don’t forget that the highs of B has been a resistance from then. If draw a Fibonacci retracement of A-B, will find that the price stops dropping at C—61.8% Fibonacci retracement of A-B. Then the market moves up again. Unfortunately, the price stops again at D. Analyze D carefully and will find that the resistance of MA120 and highs of B almost coincided. They confirm each other. And then a dark cloud cover—bearish signal appears at D. Now there are three signals confirmed. So it’s not hard to understand why the price drops sharply later.

In fact, this kind of relationship between dark could cover and MA could be used to design a good trading strategy.

  1. Look for a down trend market (of course, must determine the appropriate MA parameter, trading time frame and so on)
  2. Wait for the price rebound close to the MA, see how it moves
  3. If a dark cloud cover appears around the MA, then sell at the first candlestick after the dark cloud cover. Set stop loss above the resistance and use goal price or trailing stops.

The more signals to confirm each other, the bigger winning rate it will have.

In the same way, if the market is uptrend, bullish signal such as morning star, bullish engulfing and so on could be used to trade when the price retrace close to the MA.

3. Combined With Fibonacci Retracement

Fibonacci retracement is also a kind of R/S.The most used parameters are 38.2%,50%,61.8%. Due to the different market volatility, the best parameters are different. So do some statistic analysis before using them.

Because of the specific resistance and support characters of Fibonacci retracement, the market smells bearish once the dark cloud cover meets it in the down trend.

Example-1

See the first example.

Trading example 1 combined dark cloud cover with Fibonacci retracement

The price is in down trend and rebounds form B, draw the Fibonacci retracement of A-B. The red line as the chart shows are all potential resistance. A dark cloud cover pattern appears when the price rebounds to 38.2%, then the price stops and begins to drop again.

In fact, the passed D resistance line are very close to to the 38.2% retracement. It’s also a signal.

Example-2

See another example.

Trading example 2 combined dark cloud cover with Fibonacci retracement

It’s USDCAD H1 chart. The price is still in down trend, draw the Fibonacci retracement of A-B. Wait and see how it moves around the resistance. It stops moving up around the 61.8% and forms a dark cloud cover. So sell at the first candlestick after the dark cloud cover. Set stop loss above the highs. Here point B or Fibonacci extension could be used to set goal price.

Another interesting thing is that dark cloud cover E appears around 61.8% Fibonacci retracement of C-D. So traders could still sell at the first candlestick after E. The later market also proves it. The price drops again after the dark cloud cover E forms.

The below picture shows the trading model combined dark cloud cover with Fibonacci.

Trading strategy model combined dark cloud cover with Fibonacci retracement

Here is the trading steps:

  1. Find a obvious down swing A-B.
  2. Draw its Fibonacci retracement line.
  3. Wait and see if the dark cloud cover appears around those Fibonacci resistance
  4. Sell at the first candlestick after the dark cloud cover.

4.  Combined With Chart Patterns

Dark cloud cover also often combined with chart patterns such as wedge, double top, triangle and so on.

See how it works with the wedge chart pattern.

trading example combined dark cloud cover with wedge pattern

The market forms a wedge pattern after a falling. Then a big bearish candlestick breaks through it and forms a super long lower shadow star at B. When the price rebounds to C, it is resisted by the wedge pattern and forms a dark cloud cover pattern. After that the market drops again.

The trading model with wedge pattern showed in below picture.

Trading model combined dark cloud cover with down trendline

Besides the wedge, other chart patterns could also use the same methods to confirm its resistance

For the dark cloud cover, the most efficient method is to confirm the resistance combined with other technical ways in the down trend. It’s hard to use it the uptrend market, because there is only one top. And of course, it’s not 100% right, so do not forget the stop loss.

 

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