MARKETS SPECTATOR: China coin

The mood in the market looks to be improving, while China-facing investments provide a decent trading opportunity.

It’s been a pretty quiet end to good trading week for Australian stocks amid very low volumes and a lack of leads from the US as the nation celebrates its Thanksgiving Day national holiday. Given the weakness of recent weeks, it’s encouraging to finally see some ‘green on the screen’ and a market that is starting to react to positive data.

In the two weeks following President Obama's re-election, markets were in a bad mood, choosing to ignore any inkling of positivity and focus on why the US fiscal cliff situation won’t be resolved and how deep the resulting tax hikes and spending cuts would send the economy into recession.

Back then, I wrote about how the market always overreacts and it did it almost perfectly. But all it took was a few encouraging words from President Obama and Congress spokesman Boehner for the market to finally awaken and realise that perhaps the negotiations are going to be different and more productive than they were for the debt ceiling 18 months ago.

Now we are nowhere near out of the woods but it feels like the market is in a much more neutral mood now and will react according to the data presented, rather than being completely biased to the downside.

China facing ETF’s

Following yesterday’s very encouraging Chinese manufacturing data, it’s very clear that GDP in China has bottomed and is starting its recovery.

However, in terms of price action on their exchanges, the Shanghai Composite is trading sideways at best. However, one must remember that the Shanghai Composite can only be traded by Chinese residents and its 70 per cent made up of retail investors. Hence it’s seen as a good contrarian indicator to what is actually happening.

This is especially true when you take the below chart in to consideration. It represents the iShares FTSE China 25 Index ETF, which is the biggest China-facing ETF in the world.

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Source: Iress

Ignoring the chart for a second, from a relative performance point of view the above FTSE China 25 ETF has basically underperformed the US market for the best part of the three years. However, the last couple of months have seen the ETF outperform strongly as investors rotated funds into cheap Chinese stocks.

From a technical perspective, the above chart sets up a textbook trading opportunity. After trading as low as $32 in early September, it rallied strongly, breaking up through strong resistance (labelled major support) and peaking around the $38 mark. From there, it has seen some profit taking which has brought it back to the major support level, where it has once again found strong buying support.

Assuming the economic data in China continues its recovery, more and more funds should be invested in China-facing investments, which should see the China 25 ETF rally further.