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Shorting Asia Makes a lot of Sense

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November 30, 2008 – Comments (8) | RELATED TICKERS: FXP , EEV , EUM

Many people (many Fools even) may wonder if it makes sense to short China after it's +70% decline.

The simple answer is yes for several reasons:

 

1. In the history of centrally planned economic expansions has there ever been a success - NONE that I am aware of.  China likely has much excess capacity.

 

2. Most of the businesses that have moved from the developed world to China are low margin capital intensive businesses with high fixed costs. These sorts of businesses are cyclical and depend on high volumes of output to be profitable. Since the world will order less goods from china there is a good chance many of these businesses will go from low P/E stocks to NO P/E stocks.

 

3. The new chinese stimulus towards infrastructure will keep people employed but provide very little near term earnings growth for the chinese stock market - remember the truth is that china already has more infrastructure than they need for their current economic output.  2009 will be less economically productive... so do the math there.

 

Currently I am short the emerging markets and China via the FXP (ultra short China), and EEV (ultra short Emerging Markets) - levered ETFs.   These levered ETFs are only short term trading vehicles because and they will eventually be busted investment products because their correlations can fail over the mid and long-term.  However at this point and time I think they are poised for a snap back rally.

The EUM is a unlevered emerging market ultra-short that has lower risk/reward - and higher correlation than the EEV or FXP.  The EUM is the better mid-term bet, for what it's worth.

The recent US stock market rally crushed the ultra shorts (EEV FXP) in a span of few days. If the asian markets can't rally soon I think these ETF's could trade up 30% or more quickly.

 

8 Comments – Post Your Own

#1) On November 30, 2008 at 10:25 PM, Tastylunch (28.69) wrote:

That's a decent thesis, sems like hHina is going off the rails. Riots over slowdown, billionaires dissappearing, sudden revisions to job grwth statistics, mysterious electricity consumption drops yet production increases?

something's up.

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#2) On November 30, 2008 at 11:17 PM, FleaBagger (27.51) wrote:

I don't see why you're shorting emerging markets. Is EEV's target index overweight China and China-dependent countries? You didn't tie that together very explicitly for us noobs.

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#3) On December 01, 2008 at 4:35 AM, kaskoosek (30.27) wrote:

You might be correct regarding export driven companies, but I do not think it is a good idea to short companies that cater for domestic demand. (China telecom and others).

A fiscal stimulus would keep a lot of people employed therfore domestic demand wouldn't shift lower by much.

Also you have to consider that as China decreases interest rates, stocks become much more attractive. Yeilds of 6-7% would be a godsend.

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#4) On December 01, 2008 at 11:31 AM, dexion10 (27.07) wrote:

FleaBagger

- my apologies -  the reason I am short the EEV is that

the EEV has some asian exposure - but more importantly it's because the EEV is short countries with much worse balance sheets than china. I fully expect some of these countries will default on their debt.

 

Additionally most of the emerging market countries specialize in capital intensive / low margin businesses - like China. 

The fall in oil and commodities has created large budget deficits in most of the emerging markets... China is cash rich so it can survive better than some of the countries that are shorted in the EEV. 

 

kaskoosek  -

We'll look back and think of China like we think of the internet boom / bust.   China will fulfill some of it's predicted glory but not all of it and not all at once. 

I don't think china's stocks will seem as appealing when you remove the E from P/E.   Their will be no yield for a large portion of the stock market.

Futher china's strong balance sheet will mean that china's currency could strengthen further and drive more business to other emerging markets.  China will likely start intervening to drive it's currency down in sync with the dollar or faster.

 

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#5) On December 01, 2008 at 2:03 PM, kaskoosek (30.27) wrote:

dexion10

You might be more knowlegable than me on china, but for me it is very hard to short some thing that has gone down 70-80%. Fiscal stimulus would play a major role in not letting their currency appreciate.

 

Regarding Oil countries. What you are arguing regarding budget deficits is very tricky. I can tell you honeslty non of the oil countires are going to decrease their bugets since they have saved a lot of money from before.

 

Saudi Arabia's minister  has just stated that there is no intention of doing so. They can cash in their treasuries or their soveregn wealth funds. FDI however is gonna decrease drastically. I am currently long in Saudi and have no intention of selling, their index is pre 2002 levels.

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#6) On December 01, 2008 at 2:07 PM, kaskoosek (30.27) wrote:

dexion10

You might be more knowlegable than me on china, but for me it is very hard to short some thing that has gone down 70-80%. Fiscal stimulus would play a major role in not letting their currency appreciate.

 

Regarding Oil countries. What you are arguing regarding budget deficits is very tricky. I can tell you honeslty non of the oil countires are going to decrease their bugets since they have saved a lot of money from before.

 

Saudi Arabia's minister  has just stated that there is no intention of doing so. They can cash in their treasuries or their soveregn wealth funds. FDI however is gonna decrease drastically. I am currently long in Saudi and have no intention of selling, their index is pre 2002 levels.

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#7) On December 01, 2008 at 4:26 PM, jegr5347 (< 20) wrote:

Venezuela and Russia are in disarray. They will blow through their oil surpluses in no time. Any cutbacks OPEC implements will be ignored by fringe members like Venezuela and Nigeria or backfilled by non members like Russia.

I am so tempted to go long oil and gas given historically low levels but everything is so unstable now.

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#8) On December 02, 2008 at 9:58 AM, dexion10 (27.07) wrote:

jegr5347 

oil and nat gas will be good long-term buys at some point.  

I'm still waiting to get long oil / gas stocks.

Currently I see most nat gas stocks as being about 30-40% overvalued relative to their near term price band  $4.50 - $5.50.

I haven't tried to value the oil stocks in a while but the key to valuing oil stocks is to find out what their finding costs for oil are and subtract that from the spot market price.  Many U.S. based onshore oil co's have finding costs near $30 and the oil sands are $65 so profit margins have been crushed.

 

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