What’s Next for the “Beijing Bounce”

Managing Editor’s Note: Today, we’re handing the reins to colleague Larry Benedict – a market wizard and legendary hedge fund manager.

And today he dives into the “Beijing bounce” and what’s happening in Chinese stocks.

Here’s what Larry thinks will happen next…

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After a three-year downturn, the iShares China Large-Cap ETF (FXI) bottomed out in January…

During that time, FXI, which holds large-cap Chinese stocks like Tencent and Alibaba, dropped by 62%.

FXI has rallied 36% since then. That’s largely thanks to serious intervention by the Chinese government. It placed huge buy orders from its sovereign wealth fund.

We checked in on FXI last month. I was looking for it to break short-term resistance.

That since played out, and FXI rallied. So let’s check its prospects from here…

Breaking Through Resistance

In the chart below, you can see the tail end of FXI’s bear trend.

This three-year move kicked off after Chinese stocks peaked in February 2021…

iShares China Large-Cap ETF (FXI)

Source: eSignal

That downtrend corresponded with several common bearish signals…

1. The 50-day moving average (MA, blue line) trended lower. And the 10-day MA (red line) mostly tracked below it.

2. The Relative Strength Index (RSI) tracked mostly in its lower band (below green line). That showed declining momentum.

3. The blue moving average convergence/divergence (MACD) line also predominantly traded in its lower range. That’s below the zero (0.00) line.

FXI’s reversal had come off the back of the RSI forming a “V” and rallying (red line) from oversold territory (lower gray dashed line).

The RSI bullishly broke into its upper band. But it kept bouncing along support (green line). And it was unable to gain any traction higher.

As you can see, this caused FXI to track in a sideways range. The $25 level (orange horizontal line) acted as short-term resistance.

For FXI to break up through resistance, I was looking for the RSI to track longer and higher in its upper range…

Plus, we needed the 10-day MA to start reaccelerating above the 50-day MA. And the MACD (blue line) had to cross back above the signal (orange line), with both then tracking higher.

Take another look at the chart. As you can see, that’s how things unfolded.

iShares China Large-Cap ETF (FXI)

Source: eSignal

You can gauge the strength of FXI’s breakout higher by the rate at which the 10-day MA is accelerating above the 50-day MA.

However, the speed of that rally leaves FXI in danger of overheating…

Note that the RSI is tracking sideways in overbought territory (upper gray dashed line). At the same time, FXI keeps making higher highs. That’s a diverging pattern.

So what should we look out for next?

A Potential Trigger for a Pullback

When the stock price and the RSI are diverging like this, it can often precede a change of direction. In this case, that’s a reversal.

However, the RSI can often track around its upper level (overbought line) for an extended period when a stock is trending strongly higher…

That’s what we’re seeing here.

Here’s where the MACD fits into the picture…

As you can see at the bottom of the chart, the MACD line is still climbing and pulling the signal line with it (red circle).

iShares China Large-Cap ETF (FXI)

Source: eSignal

We need to watch and see if the MACD line reverses sharply below the signal line, with both then tracking lower.

If that happens, it would be a potential trigger for a pullback.

Regards,

Larry Benedict
Editor, Trading With Larry Benedict