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What if technicals drive the market?

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buy_5 March 2012 (Chinavestor) Investors wonder where the ceiling may be for stocks now that the Dow Jones Industrial Average (INDEXDJX:.DJI) broke through the 13,000 level for the first time since 2008. Before you label me bearish, let me remind investors to what I just said in January and February. The January Newsletter, titled “Uncertainty creates opportunity”, suggested that despite all the bloom and gloom, short term outlook is actually not all that bad. And January turned to be one for the record books, registering the best first month performance in the last 15 years.

Then came around February when we said that “bull markets climb a wall of worry”, suggesting that despite all the uncertainty, there is more upside left. And as a testimony to our belief, we left highly volatile Trina Solar (NYSE:TSL) in the portfolio for February. That move turned to be highly profitable especially if subscribers followed our advice to sell it above $10 on February 9, 2012.


But we are of a view that things have changed. The Dow Jones Industrial Average (INDEXDJX:.DJI) rose just shy of 3% in February and is up 6.4% year-to-date (YTD). And if that looks to be excessive, how about a 17.0% rise for Hong Kong’s most liquid index, the the Hang Seng Index (INDEXHANGSENG:.HSI)? That number dwarfs a 11.5% jump for the Shanghai Composite Index (SHA:000001) as well as the8.3% rise for the China ADR Index. But investors shouldn’t be fooled.
Before we continue, stocks of interest mentioned in this issue include Inc. (NASDAQ:BIDU), Sina Corp. (NASDAQ:SINA) and 51job Inc. (NASDAQ:JOBS), among others.



Taking a look at the Dow Jones Industrial Average (INDEXDJX:.DJI) from a different point of view, the advance for the last seven months is even more impressive. The index climbed almost 20% in that short period of time, giving birth to the title of the current Newsletter. What if technicals drive the market? Because if they do, then we’re up for a good size correction.

There is another factor I want to point out. The Dow Jones Industrial Average (INDEXDJX:.DJI) was flirting with the 13,000 level for a week before closing above that psychologically important level. That long nibbling I attribute to the lack of confidence for more upside. I am of a view that the market is going to react a lot more aggressively to negative news from here on and that makes stocks vulnerable going into March.


The last day of February is a perfect example how investors digested good and bad news at the same time. The good news was that the U.S. economy grew faster in the last quarter of 2011 than expected. Index futures jumped on the news but gave up all the gains and more right after Ben Bernanke, FED Chairman, testified to Congress that more stimulus is unlikely to come.

And then there is Europe’s problems with Greece on the forefront. This suggests that any more growth in the U.S. will have to push forward against a global recession.

And China is not immune to global ills either. Most of the spectacular gains in the last two months are attributed to steep losses in all of 2011, as the chart on the first page testifies.

And if Chinese stocks are going to loose their shine, investors should know which ones are more likely to fall than others.


Looking at the second chart right above suggests that consumer cyclical and durable stocks are vulnerable as well as capital goods and basic materials. But transportation and services stocks have not that much to loose should the stock market experience a technical correction.

Going stock specific, investors should exercise caution with China Automotive Systems (NASDAQ:CAAS) and China Zenix Auto (NYSE:ZX) from the consumer cyclical sector. Looking at consumer durables, Zhongpin Inc. (NASDAQ:HOGS) and China Marine Food (AMEX:CMFO) are stocks of concern.

There are three stocks from the capital goods sector that run up over 40% YTD. These are Xinyuan Real Estate (NYSE:XIN), China Technology Development Group (NASDAQ:CTDC), and Wuhan General Group (NASDAQ:WUHN). Obviously, these stocks are in the danger zone going forward.

But there are some stocks/sectors that are worth giving a second look. The Chinese transportation sector have experienced sound money inflows, as the bottom chart on this page testifies, yet sound stocks from the sector haven’t experienced price appreciation. As a matter of fact, the Chinese transportation sector barely participated in the January-February rally, advancing a mere 5.6%. Lack of price appreciation and strong money inflows suggest downside risk is limited for Chinese airliners such as China Eastern Airlines (NYSE:CEA) and China Southern Airlines (NYSE:ZNH).


And just how successful money flow analysis can be, investors should pay attention to the money flow chart of the Chinese utilities sector. We have argued on our website several times that Huaneng Power (NYSE:HNP) was ready for a correction since the run up in prices was not supported by money flows. And here we go, the stock fell 6.4% in late February.

Besides technicals, investors have to pay close attention to fundamentals and “more” to make sound investment decisions.

By “more” I mean investors have to pay attention to institutional ownership, quality of auditor, market cap, trading volume, among others, given the large number of Chinese stock delistings from the NYSE and NASDAQ. Just this month, China Medical Technologies (formerly CMED), China CGame Inc. (formerly CCGM), AgFeed Industries (formerly FEED), and China Sky One Medical (formerly CSKI) were booted from the NASDAQ.

Talking about all these factors is going to be a central theme to my presentation at the Apple Investor Summit in Los Angeles in the middle of the month. I’ll be in good company along with Steve Wozniak, Apple Co-founder and Walter Isacsson, Steve Job’s official biographer and former CEO of CNN. There I’ll give investors an idea how to separate the darlings from the dogs focusing on Chinese technology stocks. I believe that the same framework will work for all Chinese stocks not just for the technology sector. And just to give you an idea how much stock research is important, take a look at the backbone of the upcoming presentation to the right. That slideshow will tackle three main themes: how it all started/historical background of Chinese stocks in the U.S. Then the central theme is going to be RESEACH, that will lead to sound results.


Long time Chinavestor supporters can recall our July 2011 Newsletter titled “Chinese reverse mergers fail investors” where we created separate lists for safe and less safe stocks for investors to study. Chinavestor subscribers are free to request a copy of that Newsletter.

Finally, I want to talk about fundamentals of certain Chinese stocks at the end of this issue. The largest and most liquid Chinese companies listed on the NASDAQ and the NYSE have reported quarterly earnings in late February. 51job Inc. (NASDAQ:JOBS) and Sina Corp. (NASDAQ:SINA) surprised investors to the upside, igniting a 10% plus surge the next trading day. Obviously, we like these stocks going forward. Inc. (NASDAQ:BIDU) reported a record quarter in terms of profitability and sales, yet the stock slid on a conservative revenue forecast. This was the case with Inc. (NASDAQ:NTES), another long time Chinavestor favorite. Despite a lack of momentum after the announcement, we remain bullish about these companies going forward.

But investors have to opt for high risk when it comes to another Chinavestor favorite, Inc. (NASDAQ:SOHU). The company beat revenues but missed earnings estimates and lowered earnings estimates going forward. The stock is trading at a significant discount at the moment, making it attractive on valuation. But investors should make entry points after a market correction, if our assumption that technicals drive the market is true.

Wish you successful investing, Blaze Fabry.

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