Chinese stocks have been under pressure in 2018, mostly due to trade war concerns. Although many of the Chinese American Depositary Receipts (ADRs) listed in U.S. exchanges are much cheaper than they were at the start of the year, I do not think the choppiness in individual share prices is over, yet.
On the other hand, this volatility also creates trading opportunities for October. I suggest that you consider Ctrip.com (NASDAQ:CTRP), JD.com (NASDAQ:JD) and Weibo (NASDAQ:WB), three Chinese stocks with three specific trade setups that will help you protect your portfolio and offer sizable gains.
Ctrip.com, JD.com and Weibo stock offer investors to the possibility to invest in the growing Chinese consumer economy; they all have been darlings of investors until 2018, when the escalating war of words has led to the start of several tariffs between China and the U.S. Despite the plunge in the prices of most of these Chinese stocks, many analysts and investors are doubtful as to what is next for these ADRs. The strengthening U.S. dollar adds to the uncertainty in the short-term. As the Q3 earnings season begins, I believe that investors should still be cautious or even mildly bearish on most Chinese stocks during October.
In this article, I am going to recommend a covered call on CTRP stock, a bear call spread on JD stock and a bear put spread on WB stock. These are all mildly bearish strategies to be held for the next several weeks. However, depending on your portfolio allocation and risk/return profile, you can choose to alternate between trading strategies for these stocks. Also, the daily volatility of all three stocks is high, giving each one a broad trading range. As such, investors should expect to see wide daily price swings.
Ctrip.com (CTRP)
On Sept. 5, Ctrip.com, a travel services provider, came out with strong quarterly numbers, citing good core business conditions and healthy financial numbers across the board.
As China is becoming more urbanized, they are also beginning to spend more money on domestic and international travel, a trend that CTRP is well placed to take advantage of. Yet year-to-date, CTRP stock is down over 15%, and its technical chart is pointing to further weakness, especially in the near-term.
Ctrip.com is expected to report earnings on Nov. 7. CTRP’s 52-week price range has been $35.95 (Sept. 12, 2018) — $56.46 (Oct. 6, 2017). From a technical chart perspective, I would expect a new low around the anniversary of the 52-week high that was seen on Oct. 6, 2017. Prices for the following covered call trade set up are based on CTRP stock’s closing price of $37.17 on Sept. 28.
If you already own Ctrip.com stock, consider using an in-the-money (ITM) covered call to protect some of your capital. For every 100 shares of CTRP stock you own, sell a CTRP 16 Nov $33 call option, which currently trades at $5.20. The $33 option is in-the-money (ITM), offering more downside protection in case of continued volatility and a decline in CTRP stock in October and around the earnings call season.
This call option would stop trading on Nov. 16, 2018 and expire on Nov. 17.
Assuming you would enter this covered call trade at the closing prices on Friday, Sept. 28, at expiry, this trade would break even at a CTRP stock price of $31.97, and the maximum return would be $103 — the time value portion of the premium, at a price of $33 at expiry (excluding trading commissions and costs).
You can close this covered call (i.e., either the call leg or both legs) at any time before expiry.
JD.com (JD)
JD.com, an e-commerce company out of Beijing, which also has hundreds of warehouses and thousands of delivery stations across China, has been in a downtrend for most of 2018.
JD.com’s Q2 results gave a mixed message, hampering investor hopes that the downtrend might finally come to an end. September was also a difficult month for JD stock as in late August 2018, its founder and CEO Richard Li , who owns over 85% of JD.com’s voting power, was arrested in the U.S. following sexual misconduct allegations. The troubling headlines caused a further sell-off in the stock.
Year-to-date, JD stock is down over 37% and its technical chart has not yet stabilized. JD.com is expected to report earnings on Nov. 12. JD’s 52-week price range has been $24.38 (Sept. 24, 2018) — $50.68 (Jan. 29, 2018). I expect JD.com to re-test this recent low of $24.38 before the share price forms a healthy base. In the next few weeks, trading in the JD stock is likely to be choppy with both widely up and down days. However, any up move is likely to be short-lived. Therefore, I recommend a bear call spread in JD.com stock. Prices for the following bear call spread trade set up are based on JD’s closing price of $26.09 on Sept. 28.
Consider a bear call spread whereby you would purchase an out-of-the-money (OTM) JD.com call option, while also selling the same number of at-the-money (ATM) calls with the same expiration date. In other words, the strike price of the short (sold) JD call is below the strike of the long (bought) call.
While the short (sold) call generates income, the long call (bought) restricts the upside risk and sets a limit for the maximum loss the investor is willing to take. Traders use this strategy when they expect no meaningful upside in a stock within a given period. The ideal case for the investor would be if JD stock traded sideways or went down moderately, while the investor keeps the position.
Therefore, as the first leg of the bear call spread, I would consider buying a JD 16 Nov $31 CALL option, which currently trades at 36 cents. At the same time, for the second leg of the bear call spread, sell a JD 16 Nov $26 call option, which currently trades at 1.86.
These call options would stop trading on Nov. 16, 2018 and expire on Nov. 17.
Your maximum return would be $150 at a price of $31 at expiry (excluding trading commissions and costs), which is the difference (or net credit) between the two option prices at trade initiation.
Your maximum risk would be equal to (high strike – low strike – net premium received) * 100. In other words, (31-26-1.5) * 100 = $350, at a price of $26 at expiry (excluding trading commissions and costs).
You can close this options spread (i.e., both legs) at any time before expiry.
Weibo (WB)
Weibo, a social media company with a popular micro-blogging website, has also shared the fate of most Chinese stocks during the year. Despite strong Q2 numbers and pro-active management that has been successfully diversifying Weibo’s advertising, broadening social influence especially among Chinese celebrities and increasing its monetization, WB stock had a difficult summer.
Year-to-date, WB stock is down almost 30% and its technical chart still looks vulnerable with sell signals across the board. Weibo is expected to report earnings on Nov. 16. WB’s 52-week price range has been $66.68 (Sept. 11, 2018) — $142.12 (Feb. 15, 2018). Within the next several weeks, I do not expect to witness a favorable sentiment shift toward Chinese stocks, including WB. Therefore I recommend a bear put spread in Weibo stock.
Prices for the following bear put spread trade set up are based on WB’s closing price of $73.13 on Sept. 28.
Consider a bear put spread whereby you would purchase a Weibo put option at a specific strike price, while also selling the same number of puts with the same expiration date at a lower strike price. Traders could use this strategy when they expect moderate downside in WB stock within a given period.
Therefore, as the first leg of the bear put spread, I would consider buying a WB 16 Nov $75 put option, which is slightly in-the-money (ITM) and currently trades at 6.20. At the same time, for the second leg of the bear put spread, sell a WB 16 Nov $70 put option, which currently trades at 3.75.
These put options would stop trading on Nov. 16, 2018 and expire on Nov. 17.
Your maximum return would be $255 at a price of $72.55 at expiry (excluding trading commissions and costs). In a bear put spread, your maximum profit would be equal to the difference between the two strike prices (i.e., 75-70), minus the net cost of the options (i.e., $2.45).
Your maximum risk would be $245 at a price of $75 at expiry (excluding trading commissions and costs). If WB stock were to close above the strike price of the long put (i.e., 75), you would lose the entire amount invested in the spread, i.e., $245 (plus trading commissions and costs). In other words, the maximum risk is the net premium paid at the initiation of the spread.
At expiry, this trade would breakeven at a Weibo stock price of $72.55.
You can close this options spread (i.e., both legs) at any time before expiry.
The Bottom Line on These Chinese Stocks
Although Chinese stocks offer long-term investment opportunities for the average U.S. investor, October may bring more volatility in CTRP, JD and WB shares. Through the use of various trade strategies involving options, investors will be able to weather the volatility that is likely to continue until the trade war worries calm down and stability returns to the Chinese market.
As of this writing, Tezcan Gecgil did not hold a position in any of the aforementioned securities.
