Markets rallied yesterday on the news that the Chinese had announced that the CNY would be allowed to rise. I could see the sense of a rally in other Asian currencies, and indeed the SGD rally made money for me. A rising CNY should give the Monetary Authority of Singapore more leway to allow the SGD to appreciate. But copper? US equities? Why should they fall when the Chinese tighten in other ways, but rise when they do so by allowing the CNY to appreciate? Perhaps the rally was just caused by a cheerful feeling about the Chinese deciding to play nicely.
Markets sold off as the day went on. Was this down to realisation that CNY appreciation was another form of tightening? I am tempted to say that this is just another example of markets being thick, but I can’t help but wonder if I am missing something.
Incidentally, the reversal created a kangaroo tail in the Dow Jones Industrial Average (though not in the S&P 500). This has led to some technical analysts claiming there is a fair chance the market will decline further. This is not true. As my recent research showed, a strategy that took these tails as trading signals would have made money over a long period of time, but only because the profit potential from a good signal is so high; the probability of a reversal on any one signal is less than 50%. And it only worked for reversals against the prevailing trend, whereas the prevailing trend in US equities (as measured by the 200-day moving average) is still upward.