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Investing in China's domestic recovery

Daryl Guppy
Daryl Guppy • 6 min read
Investing in China's domestic recovery
The Chinese economy is almost alone in forecasting growth for 2020 and beyond. Tapping into this investment market is easier than ever with the progress of the Cross Connect programme between Hong Kong and the Shanghai and Shenzhen exchanges.
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(July 3): The Chinese economy is almost alone in forecasting growth for 2020 and beyond. Tapping into this investment market is easier than ever with the progress of the Cross Connect programme between Hong Kong and the Shanghai and Shenzhen exchanges. There are five methods I use to invest in the Chinese economic recovery.

The first is by using an exchange traded fund that tracks the Shanghai Index. As expected, this ETF gives investors a return matching the performance of the underlying index. However not all China “index” funds are the same. Some include a mixture of mainland and Hong Kong-listed Red Chips. These ETFs provide another method to participate in the China market. My preference is for direct exposure to the Shanghai Index.

The second method is direct investing in mainland companies. This is enabled by the Cross Connect programme and participating brokers. I do not read Chinese quickly enough to apply fundamental analysis, so stock selection is based on pure technical and chart analysis. The focus is on strong trend behaviour and trend breakouts. These is the same methods we apply to Western markets. Recent Shanghai-listed trades include 600859, 600079, 600867, 600600 and 603223.

Direct investing is not for everyone so there are three alternatives which offer a proxy for investing in the Chinese economy. The advantage of these approaches is that investors may be more familiar with these locally-listed companies and have more confidence in their management and reporting procedures.

These methods carry individual company risk so a bad choice can underperform the Shanghai Index and a good choice can outperform.

The first group of stocks are companies that export to China that have a direct relationship with the strength of its economy. For stocks listed in Australia, these include Fortescue Mining which is a major supplier of iron ore. For consumer consumption, stocks like Australia’s A2 Milk Company have well developed consumer acceptance in China.

The second group comprises companies that have a well-established domestic business in China. Like Starbucks, they may be part of an international chain, but the business is still very local in China. Food Republic, owned by Breadtalk which was delisted, provides this investment avenue with stores in Beijing and elsewhere while CapitaLand has a number of shopping malls in Tier-1 and Tier-2 cities. To summarise, these companies are directly plugged into the growth of the Chinese economy and the consumer recovery.

The final approach is to select companies that are importing from China. This is now a more dangerous approach because of the push to reduce reliance on China and broaden supply lines. These are companies that rely on the recovery of Chinese manufacturing for their own growth because their business models are based on Chinese imports. In the US, this includes Apple and Walmart. Closer to home, the Australian conglomerate Westfarmers runs large-scale hardware chain, Bunnings. The vast majority of their product line comes from China. The risk in these investments is that the growth of the company depends not just on Australian demand but also on the ability of Chinese suppliers to quickly get back into business.

These five options provide good choices for investing in the continuing Chinese economic recovery. Despite the anti-China push by some countries, there is no doubt that the Chinese economy will continue to expand so it should be part of every investment portfolio.

Technical outlook for the Shanghai market

The Shanghai index has broken above resistance near 2,980 and moved above the uptrend line A. The technical indicators show that pressure is building for a continuation of the uptrend. This pressure includes the behaviour of the Guppy Multiple Moving Averages (GMMA) indicator. There is now a high probability the index will cluster around the value of the uptrend line A.

There are four key analysis features to recognise when considering the trend.

The first and second features are the uptrend lines A and B. The third feature is the strong trend support shown by the long-term group of GMMA averages. The fourth feature is the combination of bullish pressure arising from these indicator features.

Trend line A first acted as a support level and defined the breakout uptrend starting in March. After the collapse of that initial uptrend on May 22, trend line A became a resistance level. The index may now cluster around this resistance feature.

Despite the initial move above trend line A, this line will act as a resistance feature as the uptrend develops. The index will oscillate around this line. This is a strong breakout where the index has moved above trend line A and will now use this as a support feature. This is similar to the behaviour in the period between June 2 and June 10 when the index sat just above the value of the trend line.

Trend line B defines the longer-term uptrend using the pullback lows in May and again in June. The index can move between trend line A and B and still remain in a longterm uptrend. The degree of volatility, as measured by the increasing distance between trend line A and B, is slowly increasing.

The value of the line B has now moved into the values of the longterm GMMA group of averages and this increases the strength of trend support. The steady separation in this long-term group of averages is bullish. This shows investors are increasingly confident in the uptrend continuation. A steady degree of separation has developed between the long term and short term GMMA averages and this is usually associated with a stable trend.

The consistent GMMA separation, the wide spread of the short term GMMA, the index clustering along the upper edges of the short term GMMA, and the combined support features of the trend line value moving inside the long-term group of averages, all combine to create the fourth bullish feature. This suggests there is high probability the index will continue to move in a steady uptrend using trend line A as a resistance and support feature.

Daryl Guppy is an international financial technical analysis expert and special consultant to Axicorp. He has provided weekly Shanghai Index analysis for mainland Chinese media for more than a decade. Guppy appears regularly on CNBC Asia and is known as “The Chart Man”.

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