Friday, November 16, 2012

A better way to play a China rebound

It should be obvious that China's economy has turned the corner. While we may not necessarily see gang buster growth, the risks of a hard landing are diminishing fast (see my previous posts China dodges a bullet? and Is the World Bank's downgrade of China's growth the nadir?).

The chart below of Chinese stocks (as represented by FXI) compared to the MSCI All-Country World Index (ACWI) shows that FXI rallied through a relative downtrend line in October, indicating that the worst is over for Chinese stocks. Moreover, FXI has retreated to test the downtrend line, which is now relative support, and this represents a good entry point for China bulls.

Given the volatility of Chinese stocks due to the uncertainty in political climate and weak corporate governance, a better way to play a rebound in Chinese growth may be through the markets of China's regional trading partners. The chart below of MSCI Pacific Ex-Japan (EPP) relative to ACWI shows that EPP is in a more robust relative uptrend. There is a short dated relative uptrend (dotted line) that began in October, which is supported by a longer dated relative uptrend (solid line) that began in May when EPP bottomed on a relative basis.

Another way is to play a China rebound is through Australian equities, such as EWA. A glance at top 10 stocks in EPP shows that nine of them are Australian, which indicates that the Aussie market has the heaviest influence in EPP.

Another way to get exposure is through the Hong Kong ETF (EWH). The chart of EWH vs. ACWI below shows that Hong Kong equities staged a relative breakout in late September and have been in a well=defined relative uptrend since. EWH does appear to be a tad overextended in the short-term, though.

One way to diversify your exposure is to buy both Australia and Hong Kong. The bottom panel of the above chart shows the correlation between EWA and EWH, which currently stands at 0.62. While that is an elevated reading, keep in mind that is roughly the long-term correlation between stocks and bonds and therefore positions in those two ETFs should provide an adequate level of diversification while maintaining an exposure to the China bull story.

Cam Hui is a portfolio manager at Qwest Investment Fund Management Ltd. ("Qwest"). This article is prepared by Mr. Hui as an outside business activity. As such, Qwest does not review or approve materials presented herein. The opinions and any recommendations expressed in this blog are those of the author and do not reflect the opinions or recommendations of Qwest.

None of the information or opinions expressed in this blog constitutes a solicitation for the purchase or sale of any security or other instrument. Nothing in this article constitutes investment advice and any recommendations that may be contained herein have not been based upon a consideration of the investment objectives, financial situation or particular needs of any specific recipient. Any purchase or sale activity in any securities or other instrument should be based upon your own analysis and conclusions. Past performance is not indicative of future results. Either Qwest or Mr. Hui may hold or control long or short positions in the securities or instruments mentioned.


rp1 said...

I wouldn't jump at this.

Anonymous said...

Remember Cam, charts didn't exactly foresee the crash of 2008. Markets price in the future, unless they don't...

Romeo Fayette said...

I'm rarely a fan of 1st derivative trades (if you're going to pursue a thesis, play it pure). In this case, EPP shows bear divergence on its dail chart, and a Head & Shoulders pattern has formed (clearly evident on its weekly charts).

I caught the bottom in China with FXI. I may be transitioning the position to GXC, because the economy depends on a shift from exports/fixed investment to the consumer were this "economic miracle" to continue... and the 18th Party Congress has promised as much (for what it's worth).