Synthetic China, Real Money (FXI)

Today’s topic is China.

 

Funny.  There was a time when every day’s topic was China.

 

Then China went kooky.

 

It was last summer.

 

After that, no more talking about China.

 

We talked about other things.

 

The Fed.

 

Terrorists.

 

The election.

1

But now we’re back to China.

 

Why?

 

Because China matters again.

 

Why does China matter?

 

Take a look –

2

This is a chart of the iShares China Large Cap ETF (NYSE:FXI) for the last six months, and there you can see that…

 

  1. We’re in bull mode, as the higher highs and higher lows attest (red circles).
  2. We have a rectangle forming over the last two months – what some refer to as a ‘congestion’ area – which represents a period of technical consolidation (blue rectangle). Buyers and sellers are operating in a range because bears are convinced the intermediate top for China large caps is in, while bulls believe we’re just taking a breather here.
  3. Indeed, after the strength of the last five months that was initiated by a potent surge in volume (in black), FXI registered a 25% gain and then ran into resistance.
  4. Resistance arrived at the long term, yellow moving average, now at $38.10 and falling (in orange). Price has been struggling to overcome that level, and that’s precisely why the current battle over the future of the shares (described in #1) is taking place.
  5. It could be that the current sideways action will continue until the intermediate term moving averages (137 and 274 DMAs) catch up to the current price and bump it higher, a development that may require another ten or twelve trading sessions to complete.
  6. Finally, RSI and MACD indicators have returned to their respective, midway waterlines, in a move that we also believe presages a new bull move higher (in green). After the midsummer surge, the shares got too hot and were in danger of becoming overbought.  The latest sideways slide throws cold water on the action and sets us up for a continued rise.

 

All told, the daily chart is solidly positive and we only await a catalyst that will spark a breakout from the current consolidation.  Our money is on a continued bull push, as we’ve stated, and the thinking is well supported by the action on FXI’s weekly chart as well.

 

Take a look –

3

From the action on the weekly chart it becomes clear why we have so much congestion at present.

 

  1. First, three of four weekly moving averages are bunched in the $38 range, providing heady resistance to any hope for a continued bullish advance (blue rectangle). It’s a rarity to see price slice through this kind of determined, three-ply bind on a weekly chart.  It’s therefore no surprise that it’s taking time.
  2. The bearish action from the mid-2015 highs appears to have run its course, as evidenced by the three evenly spaced, declining fan lines (in red). With price having cut above the lot of them, we’re now in bullish mode for the intermediate term.
  3. The bulls are supported by action on the RSI and MACD front as well (in green). Both indicators have risen above their waterlines on a weekly basis as of the beginning of August, and despite their recent turns lower, we see nothing yet that would prohibit us from maintaining a bullish posture on the Shanghai market.  Indeed, positive RSI divergence as early as September of 2015 was already pointing toward the bullish day we now see rising.
  4. Finally, the enlargement of the last eighteen months (below), paints a clear picture of a head and shoulders bottom pattern whose neckline was broken in July. Take a peek –

4

Since then the action has been solidly higher.

 

The upside count for the formation brings FXI to roughly $46, precisely the top end of a gap that opened during the summertime free-fall in Chinese stocks in 2015.  Once we get there ($46), we could see a pause, as traders digest the gap coverage and try to figure wither goest the Far East.

At that point, we’ll take stock once again and attempt to determine whether the current bull move has reached its end.  Until then, we’re sticking with the following no-nonsense FXI $46 price target, to be attained at some point in the next twelve months.

 

Constructive Currencies

 

The good news about China is not wholly technical, however.  Current trends in currencies are also helpful to both the Chinese economy and stock market.  The most obvious and meaningful of these involves the dollar, which has seen tremendous upside of late, breaking above resistance this past week and thereby providing additional impetus to goods produced in China vs. the US.

 

But the latest dollar moves could also be signaling a longer term trend now unfolding between the Dollar and Yuan.

 

As the chart below shows, the tight trading range over the last three months between the two countries’ currencies looks to have broken.  Take a look –

5

Along with better Chinese trade numbers emerging, we’ve also seen a pickup in inflation in that country, a welcome sign, considering the deflation we’ve seen in that country for the last four years.

 

6

Consumer prices have also been rising of late, leading many to believe that markets will soon be singing the Chinese expansion song over the months to come.

 

We’re going to sing our own China song in a moment, but first we’ve got a pickup to sell.

 

Close a Trade and Open Another

 

We’re shutting down our September 20th initiative today, a trade that recommended you buy the Ford (NYSE:F) December 12 PUT for $0.59 and sell the F December 12 CALL for $0.58.  Total debit on the trade was $0.01 per pair.

 

The letter may have been called The Road to Hell is Paved with a Ford, but today we’ve arrived in heaven.

 

The PUTs are trading for $0.66 and the CALLs for $0.30.  Sell the former and buy back the latter and you net out $0.35 on a penny laid down.  That’s 3500% in one month, and good on ya, brother, if you went in big.

 

Now we do China.

 

As per the above analysis, we feel it’s prudent to be long FXI shares in the form of a ‘synthetic long stock’ trade that looks like this –

- Content protected for Normandy Executive Lounge, Wall Street Elite, Executive Lounge members only]

With kind regards,

 

Hugh L. O’Haynew

Share your thoughts...

We encourage people to join in on the discussion. Please keep in mind however, that all comments are moderated according to our comment policy, and all links are nofollow. Let's keep the conversation professional and meaningful.