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When technical indicators rule

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bull_bear3 September, 2012 (Chinavestor) The Dow Jones Industrial Average (INDEXDJX:.DJI) has outperformed major Chinese indexes for 2012 so far. The U.S. benchmark is up 5.6% year-to-date after a 0.6% advance in August. In contrast, all three Chinese indexes we track fell for the month of August and the Shanghai Composite Index (SHA:000001) is back at multiple year lows as a result. Investors in China turned bearish not so much as a result of disappointing earnings but rather due to signs of an economic downturn hit home. Mainland investors continue to regard the central government as key in determining what course the Chinese economy is going to take. But lack of action from Beijing gives investors no reason to buy. Chinese shares fared a lot better in Hong Kong whose economy is a lot more open to the western world. The Hang Seng index (INDEXHANGSENG:.HSI) continues to trail U.S. indices but is up YTD. The China ADR Index, designed to track the performance of Chinese companies listed in the U.S., fell for the month of August but is up YTD.

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There is no way of telling what the future might bring for the short term. Uncertainty continues to plague the global economy especially after news that Europe officially fell to a recession in the last month. Considering that the European Union is China’s largest trading partner, any bad news from the old continent has ramifications to China’s growth. And just how important the European Union is for China, investors don’t have to go any further than to the following data. The HSBC China manufacturing index fell back to 2009 March lows in August. This is the bad news for China stock investors going forward.

But it’s not all gloom and doom. U.S. corporate earnings continue to show strength, especially from the tech sector. The Nasdaq-100 Index is trading at 11 year highs, largely thanks to a stellar performance of the index heavy weight, Apple Inc. (NASDAQ:AAPL). Besides corporate earnings, the S&P/Case-Shiller index lifted investor sentiment at the end of August. U.S. home prices rose 2.3% in June, the strongest back-to-back two months performance in more than a decade. But there is a long way to go, many point out, for average U.S. home prices are still down 31% from 2006 peak.

Similarly to the housing market, U.S. jobs market is a mixed bag. While the economy continues to create jobs at a decent pace, unemployment is stuck at a high level. Consumer spending rose 0.4% in July, outpacing growth in personal income, but the consumer confidence gauge fell to a nine month low.

With such an uncertain state of the U.S. and global economies, staying on the sideline may sound like a good advice. But remember, bulls climb the wall of worry, creating opportunity for the intelligent investor.

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When fundamentals are such a mixed bag, technical indicators come to play. One way to find interesting stocks is by looking for stock extremes. Transportation stocks fell the hardest in August while healthcare and selected consumer cyclical stocks outperformed the broad market.

One set of investors, called bottom fishers, are looking for stocks that are trading well below their fundamentals. Chinese airliners, China Eastern Airlines (NYSE:CEA) and larger rival China Southern Airlines (NYSE:ZNH), are particularly cheap relative to earnings. Both companies are trading under 10 P/E after a 10% plus dive in August. What makes these stocks even more appealing is that while their prices plunged, largely due to higher oil and kerosene prices, institutional investors didn’t sell them. This is evidenced by the money flow chart for the sector on this page. The plunge in the index value was not accompanies by a similar drop in money flows, as the chart to the right testifies. Again, this is what bottom fisher investors like to see.

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Contrary to airliners, selected healthcare and consumer cyclical stocks were bullish in August. But it turns out that both sectors were skewed by a strong performance from the sector heavy weight: Mindray Medical (NYSE:MR) from the healthcare sector and China Zenix Auto (NYSE:ZX) from the consumer cyclical sector.

To find momentum stocks, we have to resort to a different method. One of the most common ways to find these stocks is by looking at the current stock price relative to the 50– and 200– daily-moving-average or DMA. Any stock that is trading above both 50-DMA and 200-DMA are considered bullish. We looked at each and every Chinese ADR trading at the NYSE and NASDAQ and found 23 such stocks. But investors have to confine their enthusiasm to quality stocks, e.g. stocks that have sufficient trading volume, market history and meet other important parameters laid out in our earlier Newsletters, like the one in last July: “Reverse merger stocks fail investors”. All told, we listed the best 10 out of those 23 stocks in the next page for a visual investigation.

Out of those ten stocks, China Telecom (NYSE:CHA), Mindray Medical (NYSE:MR), and Qihoo 360 Technologies (NYSE:QIHU) all have sound fundamentals, evidenced by their jump after earnings announcements in August.

Wish you successful investing,

Blaze Fabry.

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