Cost of Bearish Chinese ETF Bets Surges as Growth Slows

Options traders are paying the most in six months to protect against declines in the largest Chinese exchange-traded fund on concern economic growth is slowing amid a selloff in emerging-market equities.

Puts hedging against a 10 percent decline on the iShares China Large-Cap ETF cost 5.8 points more than calls betting on a 10 percent increase, according to three-month implied volatility data compiled by Bloomberg. The Bloomberg China-US Equity Index of the most-traded Chinese stocks in the U.S. fell 1 percent last week, led by Sina Corp. The gauge dropped 8.4 percent in January, the worst monthly slide since 2012.

Chinese equities joined a global rout last month after the nation’s manufacturing data signaled the first contraction in six months and as the Federal Reserve pressed on with tapering. More than $7 billion flowed from emerging-market exchange-traded funds in January, the most on record. Chinese borrowers may experience more distress this year after investors in a 3-billion-yuan ($495 million) product that faced default were bailed out last week, Standard & Poor’s said Jan. 29.

“Investor confidence in emerging markets has been shaken in recent days, with China arguably near the epicenter of the crisis,” Eric Lascelles, chief economist at RBC Global Asset Management in Toronto, said in an e-mail Jan. 31. “There is evidence of decelerating growth. It isn’t a stretch to say that a key catalyst for recent global turmoil was China’s trust and constant murmurs of bad loans elsewhere.”

Implied Volatility

Implied volatility, used to track options prices, for contracts with an exercise price 10 percent below the Chinese ETF was 28.8 on Jan. 31, compared with 23.03 for calls 10 percent above, according to three-month data compiled by Bloomberg. Skew, or the difference in put and call implied volatility, more than doubled since its Jan. 21 low.

The iShares China ETF slid 9.9 percent last month, the most since May 2012. The Chicago Board Options Exchange China ETF Volatility Index, a measure of options prices and expectations of price swings, surged 36 percent.

A Purchasing Managers’ Index fell to 49.5 from 50.5 in December, HSBC Holdings Plc and Markit Economics said in a statement Jan. 30. The reading compared with the median 49.6 estimate in a Bloomberg News survey of 14 economists. A number below 50 indicates contraction.

China Credit Trust Co. started repaying investors in a high-yield product whose threatened failure spurred concern of further defaults and contributed to a sell-off in emerging-market stocks and currencies. The bailout offer averted what would have been China’s biggest trust default in at least a decade and eased concern that financial stresses will mount in the $1.7 trillion trust industry, the fastest-growing segment of the shadow-banking system.

Sina, Noah

Sina, the owner of China’s biggest Twitter-like microblog service, sank 6.9 percent to $65.19 last week. The stock extended its monthly decline to 23 percent, the most since September 2011. The number of users for the Chinese versions of microblogs dropped 9 percent from a year earlier to 281 million at the end of 2013, according to a report published by China Internet Network Information Center Jan. 16.

Noah Holdings Ltd., which distributes wealth management products in China and also manages funds, slid 25 percent to $13.52 in January, declining the most on the China-US gauge.

“Even if China Credit’s trust product was rescued, it raised worries about risks in China’s shadow banking sector,” Qinwei Wang, a London-based economist at Capital Economics Ltd., said by phone Jan. 31.

Top Holding

Baidu Inc., China’s largest online search engine, dropped 12 percent to $156.50 last month, the worst performance since February. Joho Capital LLC, Bob Karr’s $5.1 billion hedge-fund firm, told clients it’s liquidating after 18 years, according to two people with knowledge of the matter. Baidu was Joho’s top holding, accounting for 21 percent of its portfolio, according to data compiled by Bloomberg.

The Hang Seng China Enterprises Index in Hong Kong slipped 9.2 percent last month to 9,818.36 and the Shanghai Composite Index retreated 3.9 percent to 2,033.08 before the markets were closed for the Chinese Lunar New Year holiday. Trading in Hong Kong will resume tomorrow and markets in Shanghai will remain closed until Feb. 7 for the holiday.

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