In Battered China Stocks, ‘Lottery Ticket’ Trades Gain Favor

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Advisor Perspectives
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In the wreckage of China’s stock market meltdown, some traders are making long-shot bets that officials in Beijing can stoke a recovery.

They’re finding moments to snap up options tied to US-listed exchange-traded funds that track Chinese equities, which have been whipsawed by Covid lockdowns, regulatory pressure and a property crisis. It’s evidence that market participants – who’ve seen shares from Beijing to Hong Kong slump 60% from a 2021 peak – want to be able to capture the upside for the stocks, just in case the government eventually succeeds in stoking a rebound.

“It’s simply buying cheap lottery tickets with a potentially big payout,” said Charlie McElligott, managing director at Nomura Securities International. The worse Chinese stocks fare, “the more attractive it becomes from a risk-reward perspective,” he said.

With Chinese leaders keen to stop the stock-market selloff, the bets in ETF options are proof that at least a few investors are taking notice. Even if most traders are too shy to buy the equities outright, and many are actively avoiding them, options offer a way to maximize profits while minimizing potential losses.

“As things get uglier, this creates a little bit of panic among people who are long China, and that could create more demand for protection,” said Rocky Fishman, founder of derivatives analytics firm Asym 500.

Plus, US-based ETFs are trading as some local financial markets shutter for the Lunar New Year holiday.

China’s stocks have been among the world’s worst performers over the past three years as protracted Covid lockdowns, regulatory crackdowns in areas such such as technology and education and a rolling property crisis have sapped investor confidence. An index of mainland shares listed in Hong Kong has slumped about 6.2% this year alone, though the gauge gained 1.5% Wednesday as it reopened after Lunar New Year.

Bullish Wagers
Call options volume — which typically indicates investor interest in bullish wagers on an asset — spiked last week to the highest in more than a year for the $4.2 billion iShares China Large-Cap ETF, known as FXI. Similar trends emerged across the $20 billion market of US-listed ETFs focused on China in recent weeks, driven at least partly by traders who fear missing out on any potential recovery.

Upticks in options activity have been spurred on as President Xi Jinping’s government pushed curbs on short-selling domestically, opted for state buying of shares in the nation’s largest banks and even replaced the head of the nation’s securities regulator. The government also said it was buying up shares in locally-listed ETFs.

While call options volume has slipped back amid the holiday lull, traders are still on the lookout for the next catalyst for shares to swing — even if overall sentiment among investors remains sour. At times, Beijing’s stimulus vows have produced short bursts of market gains. FXI shot 4.4% higher last week amid the latest round of measures — though it’s still down more than 5% so far this year.

Read the full article here by Carolina Wilson, Yiqin Shen of Bloomberg News, Advisor Perspectives

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