How to Be Bearish on Chinese Stocks — CHAD, FXP

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The Chinese stock market is slumping again this year. Last month, China's foreign currency reserves tumbled by nearly $100 billion, representing the third consecutive month of declines. China still holds about $3.2 trillion in foreign currency reserves, one of the world's largest stockpiles, but months of declines are prompting some professional investors to bet against the Chinese currency.

How to Be Bearish on Chinese Stocks -- CHAD, FXP

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Those factors and others are weighing on the Chinese stock market and Asia's largest economy, prompting some investors to up their bearish bets against Chinese stocks and the yuan.

Ongoing struggles for Chinese stocks have motivated the People's Bank of China (PBoC) to stem capital outflows and the yuan's slide, including selling dollars and telling Chinese banks to not loan yuan to bearish traders.

China's economy, the world's second-largest behind the U.S., remains export-driven. That could be a sign that the PBoC's efforts to support the yuan are superficial because a weaker currency could bolster China's softening exports.

The 10 Best Index Funds to Buy No Matter WHAT the Market Is Doing

Investors in exchange-traded funds are undoubtedly noticing the erosion in the Chinese stock market this year. For example, the iShares China Large-Cap ETF ( FXI ), the largest China ETF trading in the U.S., is off about 15% this year. The Deutsche X-trackers Harvest CSI 300 ETF ( ASHR ), the largest U.S.-listed ETF tracking Chinese A-shares , or China's onshore stock market, is down more than 21% year-to-date.

The good news for investors, particularly the bold, is that they can profit declines in Chinese stocks with some currently high-flying inverse ETFs.

A fine starting point is with the…

Direxion Daily CSI 300 China A Share Bear 1x Shares (CHAD)

The Direxion Daily CSI 300 China A Share Bear 1x Shares ( CHAD ) is the ideal way for conservative traders to participate in additional downside for China's onshore stock market because although the ETF is inverse, it is not leveraged. That means on an ideal day if the CSI 300 Index - also ASHR's underlying index - falls 1%, CHAD should rise 1%.

Although CHAD is not a leveraged play on declining Chinese stocks, due to the Chinese stock market's volatility, this ETF can deliver significant gains (or losses) in short order. Less than two months into 2016, CHAD is already up 17%.

Bolstering the case for being short Chinese stocks and long CHAD is valuation - as in, the Shanghai Composite, the benchmark onshore gauge of Chinese stocks, is richly valued. According to Bloomberg :

"China's benchmark index trades at a 34 percent premium to MSCI Inc.'s emerging-markets index - up from an average gap of 10 percent over the past five years - and equities in the tech-heavy Shenzhen market are almost four times more expensive than their developing-nation counterparts. Shares with dual listings, meanwhile, were valued at a 46 percent premium on the mainland relative to Hong Kong before today, near the widest gap since 2009."

ProShares UltraShort FTSE China 50 (FXP)

ProShares UltraShort FTSE China 50 ( FXP ) has a triple-leveraged rival, the Direxion Daily FTSE China Bear 3X Shares ( YANG ), but in the interest of avoiding added volatility and too much leverage, we'll stick with FXP in this piece.

FXP aims to deliver double the daily inverse performance of the FTSE China 50 Index, the same index FXI follows. So in a perfect world, if FXI falls 1% on Monday, FXP should rise by 2% on the same day. With Chinese stocks stumbling to start 2016, FXP is matching its stated objective, up about 30% year-to-date.

The FTSE China 50 Index follows Chinese stocks trading in Hong Kong on the Hang Seng, but some of those names also traded on the mainland, making them Chinese stocks known as "dual listings." As we just noted, A-shares are a richly valued segment of China's stock market, but dual listings are themselves not inexpensive.

Additionally, U.S. investors are not displaying much enthusiasm for Chinese stocks trading in Hong Kong, as FXI has bled more than $90 million in assets this year after losing nearly $611 million in 2015.

As of this writing, Todd Shriber did not own any of the funds mentioned here.

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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