Bullish Bets on Dangdang Jump on Margin Outlook: China Overnight

Options traders are the most bullish on E-Commerce China Dangdang Inc. in 16 months after the web retailer posted the biggest gain in the first half of the year among the most-traded Chinese equities in the U.S.

Calls outstanding for Dangdang surged 14-fold last quarter and totaled twice the number of puts, the highest ratio since February 2012, according to options data compiled by Bloomberg. Beijing-based Dangdang jumped 67 percent from April through June as it changed its focus to sales with higher profit margins, while the Bloomberg China-US Equity Index sank 6.7 percent.

Dangdang, which hasn’t made a profit over the past two years, boosted its first-quarter gross margin to the highest since 2011 after the biggest Chinese online book seller shifted focus to more profitable goods such as baby products and added listings from other retailers that pay a commission. It also started offering luxury fashion at discounts in so-called flash sales, emulating the model of Vipshop Holdings Ltd., which has quadrupled in the past year. China’s online retail sales will surge 65 percent this year, compared with a global average of 17 percent, according to U.S. researcher Emarketer Inc.

“Previously we thought it may take a few years for Dangdang to break even, but in June we adjusted our expectation to the second or third quarter of 2014,” Ming Zhao, the founder of 86Research Ltd., which focuses on Internet companies, said in a phone interview from Beijing. “Vipshop’s performance sparked imagination about the growth potential for Dangdang.”

Margin Growth

Outstanding call contracts for locking in gains in Dangdang’s American depositary receipts rose to 35,700 on June 25, compared with 18,024 puts that protect investors against losses, data compiled by Bloomberg showed. Three-month implied volatility in its ADRs, the gauge of option costs, has dropped 30 percent from a high of 98 reached in August.

Dangdang announced in a May statement a 17.2 percent gross margin in the first three months of 2013, compared with 14.2 percent a year earlier and the 14.8 median estimate of four analysts compiled by Bloomberg. The company reported first-quarter net loss of 72.7 million yuan ($11.7 million), which represent a 27 percent decrease from a year earlier.

Analysts project Dangdang’s second-quarter net loss narrowed to $13.7 million, from a $19.2 million loss in the same period of 2012. Seven out of 15 analysts have a buy rating for Dangdang, while six recommend holding the stock, according to a Bloomberg survey.

Oppenheimer & Co. analysts raised their second-quarter sales growth forecast for Dangdang by 3 percentage points to 25 percent after the company gave in May a guidance of 23 percent. The brokerage also lifted its estimate of gross profit.

‘Attractive’ Valuation

Dangdang’s rally will endure if the commission-generating marketplace shows growth in the second quarter and profit margins improve, according to Andy Yeung, a New York-based analyst at Oppenheimer who rates Dangdang a buy. “Dangdang’s valuation is actually very attractive if you compare it with other publicly-traded e-commerce companies.”

Dangdang’s trading at 5.2 times its net assets, compared with a ratio of 8.8 for its peer Vipshop, a Guangzhou-based Internet retailer of branded fashion.

Vipshop dropped 4 percent in the last quarter to $29.16, paring its advance this year to 63 percent.

LightInTheBox Holding Co., a web seller of lifestyle products which raised $78.9 million earlier last month in its initial public offering, has increased 42 percent from its IPO price to $13.46.

The iShares FTSE China 25 Index Fund, the largest Chinese exchange-traded fund in the U.S., slumped 12 percent last quarter to $32.52, the worst performance since September 2011. The China-US gauge dropped 4.1 percent in June, the biggest slide in four months, while the Standard & Poor’s 500 Index retreated 1.5 percent last month.

Yanzhou Plunges

Yanzhou Coal Mining Co., China’s fourth-largest coal producer, sank 48 percent in the last quarter to $7.11, the lowest level since March 2009. It posted the biggest decline on the China-US index both for June and the second quarter.

China’s official Purchasing Managers’ Index for June manufacturing was probably at 50.1, down from 50.8 the previous month, signaling slower output growth, according to a Bloomberg survey of 33 analysts before government data scheduled for release today.

The Hang Seng China Enterprises Index dropped 15 percent for the second quarter while the Shanghai Composite Index sank 12 percent, after government data showed China’s economic growth slowed to 7.7 percent in the first three months this year and a cash squeeze drove up interbank money-market rates to record highs in June.

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