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China ETF Investing 101

|Includes: iShares China Large-Cap ETF (FXI), GXC, HAO, MCHI


October 29, 2012 - China ETF Investing 101 - By Zacks Investment Research

Over the past 30 years, China's economy has changed from a centrally planned system that was largely closed to international trade, to a more market-oriented economy with a rapidly growing private sector. A major component supporting China's rapid economic growth has been the growth in exports which have made the nation the 'factory to the world'.

However, the country experienced a rough 2012 year, at least so far. The sovereign debt crisis in Europe and sluggish recovery in the U.S. impacted its export business to a large extent, while worries over inflation, a housing bubble and rising levels of local debt are still threatening the market.

After all, the Chinese economy is slowing down. This slowdown is attributable to the sluggish economic environment and rigid policies at home which together impacted its GDP (gross domestic product) growth. The (OTC:GDP) growth fell from 10.4% in 2010 to 9.2% in 2011.

Meanwhile in more recent time frames, in the second quarter of 2012, China reported a GDP growth rate of 7.6%, down from 8.1% reported the first three months of the year. The World Bank predicts that the Chinese economy will slow to an 8.2% growth rate this year but rebound to 8.6% in 2013.

However, we believe that if the Chinese government continues with its measures to control inflation and maintain growth, then 2013 will not see a so-called 'hard landing' as some fear. Still, risks remain in this enormous economy, especially if the leadership transition doesn't go smoothly or if investors see a broad risk off trade in the months ahead.

Yet despite these concerns, the Chinese economy remains somewhat steady, and has could be presenting investors with a decent value at this time. That is because many markets, such as the U.S. are seeing multi-year highs while China's stocks are still stuck in the doldrums despite better long-term growth opportunities.

With this backdrop, it could be time to take a closer look at any of the many China ETFs currently trading on the market. Below, we have highlighted four of the more popular options in segment, any of which could be an interesting way to target the Chinese economy as we close out the year:

FTSE China 25 Index Fund (NYSEARCA:FXI)

This ETF is the most popular ETF for investors seeking targeted China exposure. The fund has over $4.7 billion in assets and trades close to 7 million shares a day, giving the product extremely tight bid/ask spreads that can often times be less than a few pennies wide (Forget FXI: Try These Three China ETFs Instead).

The fund's exposure to Chinese stocks is limited to just a handful of companies though, thus providing a very narrow set in the Chinese market. Company specific risk is also high in the ETF as more than 60% of assets are invested in the top 10 holdings.

Among individual holdings, China Mobile Ltd takes the top spot with 10.73% of assets invested. This is closely followed by China Construction Bank and Industrial & Commercial Bank of China.

For this the fund charges an expense ratio of 72 basis points annually, putting it on the high side, although its volume and is clearly unparalleled in the market.

Among sector holdings also, the fund appears to be highly invested in Financials, which take the major chunk of invested assets at 53.2%. Telecommunication, Oil & Gas and Basic Materials have 19.57%, 14.25% and 10.15% share, respectively invested.


For a broader exposure to Chinese equity market, investors can look for SPDR S&P China ETF (GXC) for investment. This fund provides exposure to a somewhat large basket of 180 Chinese companies. The fund manages an asset base of $819.4 million and trades with volume of roughly 14,200 shares a day.

This fund is also heavily concentrated in its top 10 holdings which receives 48.3% share of invested assets. GXC also gives top priority to China Mobile like its iShares counterpart.

In this fund, China Mobile gets a share of 9.05% while the second and third positions have been assigned to China Construction Bank and Baidu Inc with asset investment of 7.24% and 5.15%, respectively.

Like FXI, GXC is also not devoid of sector specific risk. The fund invests 31.7% of its asset base in financials while Energy, Information Technology and Telecommunication Services take the other three spots with respective shares of 15.22%, 13.16% and 11.6% .

The fund charges an expense ratio of 59 basis points, much lower than FXI, although the light volume could add to total costs.

Guggenheim China Small Cap ETF (NYSEARCA:HAO)

This China small cap fund looks to follow the AlphaShares China Small Cap Index which looks at Chinese firms that have a maximum in $1.5 billion float-adjusted market capitalization. The product does have a decent component in firms based in Hong Kong, as these securities account for roughly one-fourth of the total.

The fund manages an asset base of $156.4 million and trades with the volume of 0.45 million shares a day. HAO charges an expense ratio of 70 basis points from the investor

The overall basket of securities in the fund consists of nearly 225 companies with industrials (26%), financials (15%), and basic materials (15%), accounting for the top three spots. Mid caps account for 58% of the portfolio while large caps make up another 4% of assets, suggesting that the product will not be a pure play on small caps but will still have a tilt towards pint sized securities.

The fund appears to be well spread out as it invests only 13.8% in top 10 holdings. Among individual holdings, Shimao Property Holdings takes the top spot, followed by Longfor Properties and Guandong Investment Ltd with respective shares of 1.48% and 1.46%.

MSCI China Index Fund Profile (NYSEARCA:MCHI)

Investors seeking exposure in large cap securities of China can invest in MSCI China Index Fund Profile. The fund invests 92% in large caps while the remaining 8% is invested in medium and small caps.

The fund holds a basket of 144 large cap Chinese stocks in which it holds an asset base of $360.8 million. It also offers liquidity to investors as 170,000 shares trade in an average day.

Concentration risk is very high in the fund as more than 53% of assets are invested in the top 10 holdings though it also means that the fund's performance is highly dependent on these securities.

The holdings in the top 10 holdings are somewhat similar to others on the list, as this fund also has China Mobile Ltd in the top spot with 11.59% of assets invested. This is closely followed by China Construction Bank and Industrial & Commercial Bank of China. However, the expense ratio is far less than FXI, coming in at 58 basis points annually.

Among sector holdings, financials takes the top position with asset investment of 36.78% while energy and telecommunication takes the other two spots with respective shares of 17.72% and 14.21% of the fund.

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