Tuesday, November 13, 2012

FXI: China falls.

The exchange-traded fund tracking the FTSE China 25 Index (FXI) -- the bluest of the Chinese blue chips -- fell below its 20-day low Tuesday morning in  1.8% downside gap. (Gaps aren't unusual for this ETF as it catches up with trading on the Chinese exchanges while the U.S. exchanges are sleeping.)

Two emerging-market funds, EEM and VWO, also sent bear signals by gapping below their 20-day lows, but they have heavy exposure in the country -- 18% for EEM and 17% for VWO -- so when China sneezes, these funds catch colds.

So in looking at these funds and the country funds, I want to avoid duplication, and I'm focusing my analysis on the country fund.

The FXI breakout itself is something I take seriously. The breakout level, $36.21, is only a dollar plus change above the bottom of a price spike that began Oct. 11 from $35.17 and carried the prices to a swing high of $38.15 on Nov. 6.

It is below the top of the gap that signaled the start of the spike.

The sideways trend from May into October had ceiling levels between $35.17 and $35.67, and today's low so far before an intra-day retracement to the upside is $35.65. That level means that real resistance has been pierced, but the retracement suggests the possibility of a bounce.

The market decline in China has come amid reports that the government plans to continue with a trial-run on collecting property taxes. It's a huge domestic issue, as The Economist reported in an excellent article last February.

It's worth noting, also, that FXI has had two downside breakouts in the past six months, neither of which produced a profit, meaning they hit the close point -- the 10-day highest price -- when it stood above the breakout price to the downside. So the historical odds are grim, to say the least, although with a very limited data-set.

FXI on average trades 18.2 million shares a day and has a very wide range of option strike-prices in its cupboard with open interest running to the four and five-figures. The bid/ask spread on front-month at-the-money puts is a narrow 1.8%.

FXI's implied volatility is running at 24%. It has been running sideways since September in the lower half of the six-month range.

Options are pricing in confidence that 68.2% of trades will fall between $33.44 and $38.48 over the next month, equivalent to 10 times the average daily range for the past 20 days, for a potential gain or loss of 7%. The implied one-week range is $34.75 to #37.17, five times the 20-day average daily range, for a potential gain or loss of 3%.

Trading in options is running above the five-day average volume, by 13% for calls and 84% for puts.

The fair-price zone on today's half-hour chart runs from $35.79 to $36.03, encompassing 68.2% of transactions surrounding the most-traded price, $35.95. There are several contenders for most-traded at high prices, running from $35.96 to  $36, and the stock is trading slightly above the most-traded level, so traders are leaning slightly to the upside with two hours and 45 minutes left in the U.S. trading day.

FXI goes ex-dividend in December for a semi-annual payout yielding 2.59% at today's prices.

Decision for my account: I took the trade, despite the failure of both bear signals of the last six months. They came during a clear sideways trend, as discussed above, and under such circumstances the Turtle Trading breakout levels can in fact act as reversal points.

However, mindful of the risk, I hedged the initial position as a bear call spread. I structured it as short the December $36.50 calls and long the December $37.5 calls for a credit of $31 per contract. 

This structure puts my break-even point at $36.81, slightly below a stop/loss level set at twice the average daily trading range: $37.09. Generally, I like my break-even to be at or beyond the stop/loss, but it was a trade-off to increase the credit. Even at this level, the beak-even is about half-way up the price spike that has ended.

Any additions to the position, as downside price targets are hit, will be in the form of February put options with a delta as close to 70 as I can manage.


My trading rules can be read here.

And the classic Turtle Trading rules on which my rules are based can be read here.

Tim Bovee, Private Trader tracks the analysis and trades of a private trader for his own accounts. Nothing in this blog constitutes a recommendation to buy or sell stocks, options or any other financial instrument. The only purpose of this blog is to provide education and entertainment.
No trader is ever 100 percent successful in his or her trades. Trading in the stock and option markets is risky and uncertain. Each trader must make trading decision decisions for his or her own account, and take responsibility for the consequences.

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