Analysis Of Momentum Effect In China’s Foreign Exchange Market

Aiming at improving the RMB exchange rate formation mechanism, China has carried out a major reform of the RMB exchange rate system in July 21, 2005.The RMB exchange rate is no longer pegged to a single currency, but is linked and range by a basket of currencies. With the reform of the RMB exchange rate formation mechanism, based on market supply and demand, RMB appears slight appreciation generally. In 2008, in response to the global financial crisis, China has narrowed the volatility of the RMB exchange rate. With the gradually liberalized of current account and capital account,the China’s foreign exchange market become more reasonable,balanced and stable.The main body of the foreign exchange market is more diversified,trading varieties were significantly enriched and trading volume is significantly enlarged.Based on market supply and demand,refer to a basket of currencies for regulation,managed floating exchange rate system,in line with China’s exchange rate reform initiative, controllablility and gradual progress requirements. With the continuous expansion of the foreign exchange market, the breadth and depth of the market are opening up, the RMB capital project liberalization and orderly progress, the gradual reduction of the cost of foreign exchange transactions, the effectiveness of China’s foreign exchange market has been significantly enhanced. In the study of the momentum effect of China’s foreign exchange market, a lot of valuable research results have been obtained.To start with, this paper describes the evolution of the RMB exchange rate regime.China has adopted a dual exchange rate system from 1981 to 1994 which official exchange rate and swap rates coexist. From 1994 to 2005, China adopted a market-based, single, managed floating exchange rate system. In July 21, 2005, our country began to further improve the exchange rate formation mechanism, they implement market supply and demand with reference to a basket of currencies to a managed floating exchange rate system. From July 2005 to present, the elasticity of the foreign exchange market has much improved than before except that from mid-2008 to June 2010, the central bank announced the RMB pegged to the US dollar again, aiming at withstanding the global financial crisis. Then we studied the process of internationalization of the RMB, RMB internationalization must be through in three stages: the settlement currency, the investment currency, the reserve currency.Secondly, we have a short reviewed of the discovery process of momentum effect, then we introduced the efficient market theory, behavioral finance theory and the source of momentum effect.This article mainly explain the source of the momentum effect from the perspective of behavioral finance, focusing on six important behavioral finance theory: BSV model, DHS model, HS model,Delong model, disposition effect and herd behavior model.Then we analyze the short-term and long-term momentum effect of the foreign exchange market by building improved MA model. Results shows that in China’s foreign exchange market there are significant momentum effect and momentum increases yields holding period of decline. We found thatafter the exchange rate formation mechanism reform, the momentum effect of the foreign exchange market decreased significantly, suggesting that the effectiveness of the foreign exchange market has improved to some extent.