China ETFs Tumbling on Fears of Credit Crunch

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While many investors might be laser-focused on the U.S. market and its woes, there is trouble brewing in a number of other nations around the globe too. This is especially true in emerging markets, as these nations have been hit hard by taper fears, a strong dollar, and a general risk off trade.

In particular, China has become a flashpoint for the global economy where events could either promote global stability, or plunge other markets into a crisis. After all, the nation has the second biggest economy on Earth, and up until recently, was responsible for a big portion of global GDP growth as well.

The nation has fallen back lately though, as the taper talk and a number of local issues have conspired to dull the appeal of Chinese securities. Now, Chinese stocks are decidedly in bear market territory, with many worried of heavier losses in the days ahead as well (read Emerging Market ETFs Tumble on Global Worries).

What Happened in China?

The main reason for the concerns in China, beyond the Federal Reserve’s policies and its impact on foreign markets, is the current landscape for credit in the nation. Markets have seized up on this front, with the so-called SHIBOR (Shanghai Interbank Offered Rate) surging to double digit levels, suggesting a liquidity crunch in the country.

It also hasn’t helped that the nation’s central bank appears unwilling—or unable-- to involve itself in this situation, leading some to believe that China ether has no control over the market, or has made peace with the idea of some financial sector pain in the near term.

That is why the country’s central bank sat on the sidelines for so long, before finally injecting about 50 billion yuan into the markets. However, it is worth noting that the bank also said that ‘liquidity is currently at a reasonable level’ and that banks need to ‘prudently manage liquidity risks’, suggesting to many that such accommodative policies shouldn’t be expected in the future (see Forget China, Buy These Emerging Market ETFs Instead).

“The statement confirmed market speculation that the cash squeeze is being tolerated by the PBoC as a warning to banks to curtail their aggressive lending practices and reduce risky activities in the shadow banking market," according to Stephen Schwartz and Carrie Liu at BBVA Research, via a Business Insider article.

As you might expect, this is causing a sell off among investors and traders who hate the uncertainty of the situation, and are generally fed up with emerging markets for the time being. It also comes on the tails of some major brokerage houses—among others—lowering their growth forecasts for the nation, putting a dark cloud over the country’s near term future in this uncertain climate.

ETF Impact

With this kind of backdrop, there has been a devastating impact on China ETFs, as these have been crushed across the board. The confluence of a possible credit crisis, a lack of emerging market demand, and a risk off trade have led to some pretty horrendous trading days in the space (also read 3 Currency ETFs Hit Hard By Taper Talk).

Consider the performance of the five most popular China ETFs as of late in this brutal environment:

 

China ETF

5 Day Performance

1 Month Performance

FTSE China 25 Fund (FXI)

-7.8%

-14.5%

MSCI China Index Fund (MCHI)

-8.1%

-14.2%

S&P China ETF (GXC)

-9.7%

-13.4%

China Small Cap ETF (HAO)

-8.3%

-12.5%

Golden Dragon China Portfolio (PGJ)

-9.5%

-7.1%

So while many might think that the U.S. trading has been bad lately, China has clearly been a lot worse. Some funds are now approaching double digit losses in just the past five days, while all—save for the ADR-focused PGJ--  have plunged by more than 12% in just the past month.

Bottom Line

China ETF investing is pretty dicey at this time, as there are growing fears over a broader credit crisis in the important emerging market. Add in global worries over emerging market investing and a risk-off environment, and there is little hope for China ETFs in the near term (see Winning ETF Strategies for the Second Half of 2013).

Given this, investors might want to consider cycling out of China-focused ETFs—both specific funds and broader ETFs that hold big chunks in the nation—and into other, less volatile, corners of the emerging market world instead. China is facing some serious trouble ahead, and it is probably best to avoid the situation entirely as opposed to trying to catch a falling knife in precarious situation.

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