Wednesday has been a rip-roaring day for Chinese stocks, with the iShares China Large-Cap ETF (NYSEARCA:FXI) up more than 6% at midday, and the Guggenheim China Small Cap ETF (NYSEARCA:HAO) up more than 10%.
This continues a run that has seen HAO — formerly the Claymore/AlphaShares China Small Cap ETF — bounce back 30% off its February lows, and that has FXI — formerly the iShares FTSE/Xinhua China 25 Index (ETF) — up some 18% from the bottom it scooped out in early March.
This also signals a very clear “get the heck outta Dodge” moment in the short-term.
From a fundamental perspective, the recent run in Chinese stocks to 2008 highs is troubling because it has been led in some part by a Chinese tech stock bubble that “is making the heady days of the dot-com bubble look tame by comparison.”
There’s also a little worry about who’s doing the buying — Business Insider lays down this fun stat about a recent China Household Finance Survey:
“The survey broke down the education level of China’s new stock holders — 5.8% of them can’t read, and for 60% junior high is the highest level of education they’ve attained.”
There’s still plenty of bull case for Chinese stocks. For instance, many believe that China’s central bank will continue with more economic easing, which has been in place since November. And while there’s some opposition to it, China’s A-shares are being considered for inclusion in MSCI’s global indices. If they are allowed in, according to Reuters, “Some predictions suggest $300 billion will eventually flow into the Chinese mainland market.”
But today’s price action marks a good opportunity to take at least partial profits. And if you were considering entering a position in Chinese stocks … well, you’ll want to wait.
As you can see above, the charts of FXI and HAO have gone parabolic, and both ETFs’ Relative Strength Readings have flown into overbought levels (FXI is at 80, and HAO is at an extremely overbought 91).
The supply-and-demand equation has just gone out of whack, and plenty of traders and investors will be looking to take profits.
In short: Expect some very near-term exhaustion.
A close below today’s opening price — whether that comes today or in the next couple of days — should trigger some gap-filling to an area near Tuesday’s closing price of $46.40 for the FXI, and $29.50 for the HAO.
Quicker, aggressive traders could consider buying Apr $49 puts on the FXI for $1, or the (admittedly less liquid) Apr $32 puts on the HAO for 45 cents. There are only nine days left until monthly options expire, so this relies a lot on Chinese stocks turning south quickly.
If you wanted to play it a little safer, an Apr $49/$47 bear put spread on FXI can be bought at last check for 70 cents, with a breakeven at $48.30, and a maximum reward of $1.30 should FXI dip below $47 by April expiration.
Meanwhile, the April $32/$30 spread on HAO is going for 60 cents, with breakeven at $31.40 and a max return of $1.40 should HAO finish at $30 or lower by April expiration.
Kyle Woodley is the Managing Editor of InvestorPlace.com. As of this writing, he had sold part of his position in HAO. Follow him on Twitter at @KyleWoodley.
