Death Cross: The chart formation that warns traders about the trouble ahead

The 'Death Cross' is a technical pattern that signals negative sentiment and weakness in securities. This price-average-based indicator comprises moving averages and highlights the relevance of their convergence.

Investors rely heavily on the support and resistance of major daily moving averages (DMAs), like 200-DMA, as these levels have a great significance in determining the sentiment of the stock markets. Stocks or indices trading above significant moving averages show a positive bias and tend to continue with a bullish outlook in the future.

Conversely, securities trading below moving averages tend to be weak and are likely to decline further. Market participants consider these securities as negative stocks and an opportunity for building short positions. Several traders prefer to exit their bullish position.

Death Cross is the crossover of 200-DMA with 50-DMA, which is considered as a short-term moving average. Herein, the crossover indicates long-term moving average crossing the short-term one, suggesting that weaker hands are gaining strength. The opposite of the Death Cross is known as the “Golden Cross”, which means a positive crossover, with the short-term trend firmly crossing long-term average.

How to Interpret a Death Cross

-- A Death Cross offers opportunities to exit long positions and look for shorting the negative trend

-- The sentiment of market participants shows a selling outlook and many prefer to stay on the sidelines

-- In a small time-frame, majorly in intraday sessions like 15 mins, 30 mins and 60 mins, the formation of a Death Cross reflects hurdle at higher levels

-- The probability of Death Cross resulting in a bearish environment is higher when supported by firm volumes

-- A perfect Death Cross is usually followed by a long-term downtrend that might last even for a year

-- It is an indicator showing the end of the bull market

Although many analysts also watch out for other moving averages crossovers like 100-DMA and 50-DMA, 50-DMA and 20-DMA, the most preferred and reliable is the 200-DMA and 50-DMA crossover. The false signals generated by 200-DMA and 50-DMA - death cross -- are far lesser than other moving crossovers. The chart scenario shows a formation that looks like an “X –shape”.

Opportunities in Death Cross scenario

-- Formation of a death cross may see counter falling over 20 per cent in many cases

-- Every short-term reversal is seen with added selling pressure for traders and investors

-- If the overall sentiment towards the market supports the negative outlook, the fall can be vertical in nature

-- Herein, the stop loss is majorly kept at the highest level achieved during the formation of the Death Cross

Whenever a Death Cross is formed, traders search for opportunities in trendline breakdown, Gap Down close, volume sell-off, and technical indicators showing weakness to capitalize on the short-term gains. Such indications provide reliable trading bets for quick gains. (Chart of Amara Raja Batteries Limited)