Shorting China’s Priciest Stocks Is Now Easier With CSOP ETF

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CSOP Asset Management Ltd. is handing Hong Kong investors a way to bet against China’s most expensive stocks.

The CSOP SZSE ChiNext ETF became the first exchange-traded fund in Hong Kong to track the ChiNext index of small-company shares when it started trading Friday, according to Jack Wang, managing director at CSOP. The ChiNext surged 113 percent in Shenzhen this year through yesterday, versus a 35 percent gain for the benchmark Shanghai Composite Index.

Chinese small-cap companies are trading near record highs after the government pledged to support developing industries, including technology and health care, to shift the economy away from manufacturing and property development. The ChiNext is valued at 109 times reported earnings, five times higher than the Shanghai gauge’s level.

“There are funds that want to go short ChiNext thinking the valuation is too high,” Wang said in a briefing in Hong Kong on Wednesday. “They could do so with this ETF. Of course, we’ve also seen interest in buying ChiNext on bets earnings growth will leap.”

The small-cap index has climbed this year before the start of a exchange link between Shenzhen and Hong Kong, which will expand foreign investors’ access to smaller companies. Hong Kong Exchanges & Clearing Ltd. is preparing for the Shenzhen program to begin in the second half of 2015, while the date may be announced by the end of June, Chairman Chow Chung Kong said last month.

Best Performer

Technology, consumer and health-care companies comprise almost half of Shenzhen’s benchmark gauge, while state-backed banks and industrial conglomerates dominate Shanghai’s bourse.

Leshi Internet Information & Technology Co., a maker of Web-enabled TVs, has surged more than 400 percent for the best performance on the ChiNext this year. The stock trades at 367 times earnings, while software company Beijing Egova Co. has a multiple of 160 after jumping 326 percent.

The ChiNext gained 0.1 percent at Friday’s close, reversing a 2.6 percent loss. The Shanghai Composite dropped 1.6 percent.

Using the ETF for shorting is “risky,” said Ben Kwong, a director at brokerage KGI Asia Ltd. in Hong Kong. “China’s market is not a sensible market. It’s driven by speculation and based on momentum and market rumors, so it’s very difficult to judge the price rationally.”

The ChiNext is forming an unprecedented bubble as mutual funds have heavy positions in the stocks and retail investors buy them regardless of fundamentals, according to a Thursday article written by Wu Lihua in the Economic Information Daily, which is operated by the official Xinhua News Agency.

Trading Quotas

U.S. investors are already able to trade Chinese small-cap stocks though the Market Vectors China AMC SME-ChiNext ETF, which has climbed 84 percent in New York this year.

CSOP is using its quotas under the Renminbi Qualified Foreign Institutional Investor program for the ChiNext ETF, while it utilized the Shanghai link for about 30 percent of trades for its CSOP FTSE China A50 ETF, Wang said.

The asset manager had 46.1 billion yuan ($7.4 billion) of RQFII allocations as of April 28, the world’s largest, according to State Administration of Foreign Exchange data. China has granted all of the 270 billion yuan quota set aside for Hong Kong.

“With the connect, we have freed up some RQFII quotas and now have sufficient amount for the ChiNext ETF,” said Wang. “We won’t rule out using other channels for the ChiNext ETF when they are available. That could allow us to use RQFII for our fixed-income products.”