What is Dark-cloud Cover?
One of the reversal candle patterns which you rarely see in Forex charts is dark-cloud cover. This formation consists of two candles which usually appear on top of a rally - or rather an uptrend - and is a significant sign of reversal. It especially becomes more reliable if you spot it around a resistance area. The following image shows a typical dark-cloud cover pattern.
The main specifications of this formation include...
- The first candle is a bullish candle with a relatively long real body. The high of this candle is higher than the previous candle's high.
- The second candle is a bearish candle which opens higher than the high of the first candle. This candle then closes somewhere in the middle of the first candle's real body.
- This formation is more reliable if the penetration of the second candle in the real body of the first candle is more than 50%. In other words if you locate the midway between open and close of the first candle then the close of the second candle is below the midpoint.
- If the pattern shows a high above a major resistance level but fails to close above that resistance level then it is a stronger reversal sign. It shows that bears have managed to take control of the market so the odds of reversal are very high.
You may use this formation for daily charts, intraday charts, or even weekly and monthly charts. As I mentioned earlier this pattern is rare comparing to the engulfing pattern or even hammer or hanging man but it could be more reliable. I suggest using other technical tools such as resistance lines, or moving averages, or trend lines to confirm this pattern.
The bullish formaion that is similar but in the opposite direction to dark-cloud cover is called The Piercing Pattern.
Locating Dark-cloud Cover in a Chart
The definition of this pattern just like other candlestick formations is to some extent subjective. For example when it says that the first real body must be a relatively long one how do you define this in terms of numbers? I tried to overcome these challenges by some reasonable assumptions. Some of the assumptions that I have made are the following ones.
- To define a long real body I assume that the real body of the first candle is the greater of 5 pips or 20% of the ATR. I also assume that the real body is at least 50% of the range of the candle.
- I defined a penetration factor to make the indicator more flexible. The default value for the penetration factor is 0.5 or rather 50%. It means that the second candle must close below midpoint of the real body of the first candle. If you reduce this value you may encounter patterns that could be considered dark-cloud cover but the second candle is shorter than the default definition.
I also made some other assumptions to make sure the indicator works properly. The following image shows a pattern that is located by this indicator. The Dark Cloud Cover indicator places a red down-arrow on the second candle.
Download Dark-Cloud Cover Indicator [download]
Click here to download the compiled version of this indicator. I have designed the indicator for MetaTrader 4 (MT4). If you are not using the latest build of MT4 then you may encounter technical problems. Click here for more information and possible solutions.
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