Smarter Ways to Play China

02/24/2009 10:42 am EST


Carlton Delfeld

Editor, The La Jolla Letter and Pacific Gains

Carlton Delfeld, editor of the Chartwell Global ETF Letter, thinks investors need to be very strategic about how they invest in China now.

Many analysts are still clutching to their 8% growth targets for China in 2009, but my guess is it will come in at half that figure. Thousands of export-oriented companies have already gone under. China's two big export markets, America and the EU, are slowing sharply, and intra-Asian trade is slumping as well. China's exports declined 17% last month, while imports fell 40%.

The International Monetary Fund recently forecast Asia would grow by just 2.7% this year, a sharp cut from the 4.9% that it had predicted as recently as November.

Worried about the impact of slower growth, Chinese citizens are starting to send more money out of the country while foreign investors are pulling money out, too, and slowing the pace of new investment.

The urbanization of China has even stalled. More than 20 million rural migrant workers have lost their jobs and returned to their home villages as a result of the global economic crisis. You can bet that this number is bigger and that many are staying behind in the cities as well.

Production in China's manufacturing sector declined for the sixth successive month in January, according to Hong Kong brokerage CLSA and manufacturers shed jobs in January at the fastest rate since the survey began in 2004.

This is no time to take on Chinese company risk-exchange traded funds (ETFs) are the way to go.

While FTSE/Xinhua China 25 (NYSEArca: FXI) is down sharply from a price of $54 in late April, 2008, it is not particularly cheap, trading at about ten times suspect earnings. I think that the Hong Kong ETF (NYSEArca: EWH), down 50% from its May 2008 highs and trading just above book value and seven times earnings, would be a smarter play on China.

Signs indicate capital from the mainland is flowing to Hong Kong as a hedge on China's economy and currency. A more skeptical or aggressive investor might consider the ProShares UltraShort China ETF (NYSEArca: FXP) ETF that moves 200% opposite FXI.

Investors should also be aware of the availability of options on FXI out as far as January 2010. If bullish on FXI, go with a call option. If, like me, you are skeptical, go with a put option. Or play on the volatility in FXI through a straddle; a call and put option, usually at the same strike price.

A strategy for those betting on China's weathering the storm, but wishing to sleep at night is to buy FXI and a long-term put option as a "safety net". Whether you are near-term bullish or bearish on China shares, you have a number of options to put your money behind your convictions.

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