A Selloff Or Just Rotation?

China is now officially in a bear market and investors are running for cover, at least in the Shanghai.  If you’re confused about why you keep hearing about a 23% decline in China but your fund/ETF hasn’t fallen that much, it’s easily explained.  The Shanghai Index is down 23%, but the Chinese funds/ETFs you own don’t invest in the Shanghai Index.  Only people that live there can invest in the Shanghai index.  Most funds/ETFs that you can invest in are down about 10% or so during the same time period.

The great debate on Wall Street right now seems to be is China for real or is it just another bubble waiting to burst?  Many believe there’s no real growth there.  They are just stockpiling and that’s why commodity prices have risen.  In fact, if you look at the Baltic Dry Index, it has been falling.  How can we be having a global economic recovery when the price of shipping goods around the world is dropping?  One explanation is that there are more boats now shipping these goods and they can’t charge as much as they did before.  Another explanation is China did stockpile commodities when they were cheap, and now they are not buying as much as prices have risen.  Regardless of the reason, many traders are watching the Baltic Dry Index and China.

The doubt about China has shown up this month.  The iShares FTSE/Xinhua China 25 ETF (FXI) has fallen from $44 to around $39, over a 10% drop.  In comparison, the S&P 500 rose about 3% for the month.  As you can see below, there has been a rotation out of China and into the S&P 500 that really started at the beginning of the month. 

spyfxi 8 31 09

Above is a picture of the relative performance of the S&P 500 (SPY) and the iShares FTSE/Xinhua China 25 ETF (FXI).  Why would this be?  Profit taking is an easy explanation.  But, I think it goes a little deeper.  I believe the growth in China is for real but it’s priced in their stock market for the medium term.  However, the U.S. stock market will move higher and attract assets because the economic recovery isn’t fully discounted.  So, money is shifting out of China and into the U.S.    That could continue for a few months.  Now, I wouldn’t want to bet on the fact that the United States is a better investment for the next few years than China.  But, it’s possible for a few months, especially after China’s stock market went up 100% from the March lows.

That would mean a temporary focus on the dollar, U.S. small caps, U.S. homebuilders, etc.  Putting global growth on the back burner would just be temporary.  So, I’m reducing some of my exposure to global growth for the time being and focusing on the good ‘ole U.S.A.


2 Responses to “A Selloff Or Just Rotation?”

  1. 1 tom September 1, 2009 at 9:08 am

    Karl, would you put on hedges at this time with the market rolling over with better data coming out?

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