China's Shanghai Composite closed moderately higher today, but well below the gains seen Wednesday on peer regional indices such as Japan's Nikkei and South Korea's KOSPI.
The market narrative says that less hot inflation in China—January's CPI reading printed earlier today—would allow the PBoC, the Sino central bank, to ease accommodation, which should be better for the country's economy. But, as we've noted many times recently, when the US Federal Reserve adopted its recent hawkish stance on rate hikes, Wall Street equities were punished since higher borrowing costs would likely weigh on corporate profits.
Today's situation with China's benchmark index encapsulates the trader's dilemma perfectly: should one buy into a more sustainable economy or sell on monetary policy tightening? Today traders opted for a tepid compromise, a muted equity advance.
But the dilemma is escalating globally and the interplay is even more obvious in the currency space. Consider the euro-yen pair.
Should traders bank on Japan's more robust economic growth, or trade based on the European Central Bank's path to tightening which is more aggressive compared to the Bank of Japan's looser policy?
The EUR has been gaining on the JPY since the December bottom. However, the single currency plummeted 1.2% on Friday, in part because of rising Russia-Ukraine tensions, after it touched the top of a falling channel since the May peak on Thursday, the highest level for the pair since February 2018.
That drop completed a powerful Bearish Engulfing pattern, whose potency is demonstrated by the fact that bears were able to overcome and wipe out a five-and-a-half day bullish advance.
The rising green channel started in mid-December 2021 after the ECB began talking about tightening, in the wake of the Fed's policy shift in November. Later in December, the BoJ said it was too early to consider doing away with emergency support, which helped boost the euro into 2022.
In our view, the falling channel since mid-2021 provides an apt, though not totally clear-cut comparison between the two economies, since the economic fortunes of the two regions have been shifting. Perhaps the Japanese yen strengthened against the euro based on the Asian currency's safe-haven status, as fluctuating headlines regarding the pandemic drove risk sentiment, from aversion to risk-on, cycling back and forth repeatedly.
That's a very abridged and simplified version of the macroeconomic or fundamental analysis for this pair. Technical analysis of the chart is a bit more straightforward, albeit not necessarily more clear-cut as to upcoming direction at this point.
Traders can go long using the green channel as a guide, or short in unison with the red channel. Of course, a breakout higher or lower would potentially trigger a decisive move in the same direction. Right now the top of the green channel is nearing the top of the red channel. The tandem pairing increases the probability of a return to their respective channel bottoms.
Trading Strategies
Conservative traders should wait for either an upside breakout before going long or for the green channel to end, then short when the shorter- and longer-term signals come together in a combined downtrend.
Moderate traders could short when the price finds resistance at the top of where the two channels meet.
Aggressive traders would go short as the price nears the Bearish Engulfing pattern, depending on risk aversion. Money management is critical. Here are the essential points of a sound plan:
Trade Sample – Aggressive Short Position
- Entry: 132.50
- Stop-Loss: 133.00
- Risk: 50 pips
- Target: 130.50
- Reward: 200 pips
- Risk-Reward Ratio: 1:4