Is China A-Shares ETFs Rally Over?

As slowdown continues to fetter the Chinese economy, the People's Bank of China (PBOC) appears more prepared to reckon with the country’s sagging growth profile. The central bank has been easing policies for quite some time now but whatever it does comes out insufficient to reboot the waning economy.

However, investors who are yet to be well-accustomed to the Chinese market would be surprised to know that the country’s bourses greeted its 24-year low GDP growth in 2014, prolonged credit crunch issues and a property market slump with lot of enthusiasm.

Investors are hardly bothered by submissive economic data. Instead, they are increasingly wagering on hopes for solid monetary stimulus. And why wouldn’t they? The Chinese central bank has been resorting to back-to-back rate cuts (read: Overlooked ETF Winners of China A-Shares Rally).

The latest reserve requirement rate (RRR) cut by PBOC has sprung a surprise as it was wider-than-expected and marked the second cutback in just two months. The PBOC slashed the RRR for all banks by 100 basis points to 18.5%, effective April 20. This cut was the sharpest one in over six years. Prior to this, on February 4, the central bank took the global market by storm having cut RRR by 50 bps, which was the first comprehensive cut after May 2012.

The government also put extra efforts to shore up the rural sector and spur domestic demand. In this vein, the PBOC recently offered an additional one percentage point cut to rural financial institutions and 2 percentage point cut to the rural policy bank, China Rural Development Bank. This special treatment to the domestic sector, added to the current Renminbi (RMB) internationalization, is luring foreign investors to participate in the mainland China equities.

A-Shares Saga of Q1

While the overall Chinese equity ETFs space gave a stellar show in the first quarter of the year, the performance was sounder in the Chinese A-shares space – the turnover of which touched a historic high last year (read: ETF Winners from the First Quarter).

Until last week, the space flied high with Market Vectors ChinaAMC SME-ChiNext ETF (CNXT - ETF report) – giving exposure to privately owned small and medium-sized enterprises – being the topper. Despite losing over 8% in the last one week, CNXT is up about 45% so far this year (as of April 17, 2015) (read: China A-Shares ETFs Soar on Cross-Border Trading Link).

Behind the Recent Sluggishness in A-Shares

After a stupendous rally in Q1, China A-shares ETFs halted upon entering Q2. Overpricing of Shanghai stocks seems to be the culprit here as investors switched to Chinese stocks listed in Hong Kong indices citing enticing valuation (read: Hong Kong Stocks Hit 7-Year High: 3 ETF to Watch).

Added to this, Chinese securities regulator warned retail investors about riskier trading and rolled out a host of measures including tightening of rules for margin lending which in turn spurred sell-offs in China equities.

Effect of Latest RRR Cut

As expected, the PBOC’s recent outsized rate cut, which is expected to unleash about a trillion of yuan (per an analyst), brought a fresh lease of life into the A-shares space. A-shares ETFs db X-trackers Harvest CSI 500 China-A Shares Small Cap Fund (ASHS), PowerShares China A-Share Portfolio (CHNA) and KraneShares Bosera MSCI China A Share ETF (KBA) were up over 5.7%, 3.7% and 4.9% on April 20, respectively.

This bit of information indicates that the China story is not finished yet. Moreover, we believe that the country has more cards to play and investors will weigh on the monetary easing news shrugging off weak data. However, valuation will rule the game, as investors should look for compelling value in this bloated market going forward.

ETFs Worth a Look

Here we highlight a few A-shares ETFs that stand to gain despite the recent sell-off. These ETFs include CSI China Five Year Plan ETF (KFYP), CHNA and FTSE China A50 ETF (AFTY). Prior to the latest stimulus announcement, KFYP, CHNA and AFTY were up 4.9%, 2.4% and 2.1% respectively in the last one week. YTD returns were 12.6% for KFYP and 12.5% for CHNA. AFTY, being a new fund, has no YTD returns.

KFYP tracks the CSI Overseas China Five-Year Plan Index while AFTY holds the 50 largest companies on the Shanghai and Shenzhen Exchanges, which are representative of the largest leaders within each sector. CHNA is an actively managed ETF looking to provide long-term capital appreciation that matches the performance of the FTSE China A50 Index.

Notably, Chinese stocks couldn’t hold stimulus-infused gains for long. So, this might be a risky time to foray into the Chinese scorching market. If at all one seeks a play, the above-mentioned products displaying an uptrend ruling out the broader market gloom can be considered.

Disclosure: Zacks.com contains statements and statistics that have been obtained from ...

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