What is a Dark Cloud Cover?

Malcolm Tatum

In the investing world, a dark cloud cover is a phenomenon in which there are indications that the market place is about to complete a period where investments are increasing in value and enter into a time when those assets experience a significant decrease in value. This period of losses is considered a dark cloud that looms on the investment horizon, motivating investors to make the most of the increases in prices that are taking place in the bull market, while taking steps to protect themselves from losses during the subsequent bear market. The identification of this impending bearish trend after the end of a bullish market is often predicted using technical analysis of relevant factors and events that are likely to impact the direction of the market.

Man climbing a rope
Man climbing a rope

One of the reasons for the fanciful name of a dark cloud cover for a bull market that is soon to be overshadowed by a bear market is the appearance of the sequence of events as presented on what is known as a candlestick chart. Commonly employed by financial analysts, candlestick charting makes it much easier to present the findings of a technical analysis to investors and others interested in understanding where a market or economy is going. Typically, a long white candlestick is representative of the bullish period in which securities are performing at impressive prices. A black candlestick is used to represent the subsequent bearish period, where the upswing in stock prices is followed by a downturn.

The presence of the dark cloud cover on the candlestick chart serves to temper the enthusiasm of investors who are profiting from the current prosperity, indicating that the good times are projected to end within a given time frame. As in preparing for any type of impending inclement weather, investors will take steps to protect the gains made during the profitable bull market. This often involves utilizing the data obtained from the candlestick chart to decide exactly when to sell assets likely to lose value during the upcoming bear market and purchase assets that are likely to at least hold their value during the dark days. By executing these trades at just the right time, an investor can achieve the maximum amount of benefit from the bull market and prevent a great deal of loss once bear market conditions begin to manifest in the market place.

It is important to note that as with all projections of future market movement, a dark cloud cover may or may not come to pass. Unforeseen events may take place that low progress toward the bear market, allowing investors who watch the market indicators closely to generate a little more return before selling off various assets. At the same time, unanticipated events may take place that hasten the advent of the bear market, effectively reducing the window of time investors have to execute orders to sell stocks that are likely to lose value before the market reverses course. For this reason, investors should always make sure that the underlying suppositions that led to the identification of the dark cloud cover are still relevant and that other factors have not appeared to alter the projected market movement to an significant degree.

Discuss this Article

Post your comments
Forgot password?