Testing for Contrarian Effects in the Chinese Shanghai Composite Index and the Australian Resource Stocks

Statistical international arbitrage is a well-established trading strategy amongst investment firms and hedge funds. This study tests whether contrarian (pairs-trading) strategies are profitable in Chinese and Australian markets. The profitability of these international strategies is also a test of market efficiency; one that avoids the joint hypothesis problem. The results of this cointegration study should assist investment firms, hedge firms and Australian mining companies that sell resources to China. Data was collected from stocks in the Australian resource companies and Chinese Shanghai Composite Index (CSC) from 2003 to 2013. Two contrarian strategies were tested; a strategy based on the law of one price (LOP) and a Markov switching strategy (Markov). Both strategies had mixed profitability. The profitability of contrarian strategies is evidence against Chinese and Australian markets being weak-form efficient. The findings may also be useful for universal application of the methodology of international arbitrage opportunities generally for strongly economically related countries