The Top Trade For China's Coming Collapse

Francisco Bermea's picture

Monday, July 11, 2016 - 10:30am

by Francisco Bermea

The Brexit dominated headlines at the beginning of last week. By week's end, investors had shrugged it off. And while risks remain for Europe's economy in the aftermath, there's another part of the globe that could be much more problematic for the markets.

I'm talking about China.

Policymakers in China have been playing a game of smoke and mirrors for years. They're hoping Chinese citizens -- and global investors -- aren't paying attention to what they're really up to. But my colleague Jared Levy has had his eye on China for a while.

Jared and his Profit Amplifier readers have made money from bearish China-related trades several times over the past year. Take a look for yourself... 

 

 

The reasons to be worried about China are numerous -- so much so that we don't have the space to cover all of them in today's essay. But let's take a quick look at some highlights...

The Smart Money Is Betting Against China
Experts are saying China is "overheated" and "full of bubbles." In fact, Jared recently told his Profit Amplifier readers that many smart investors are betting on "when," not "if," the country will experience a major collapse.

Jim Chanos, the billionaire investing guru who predicted the Enron collapse, says China's debt is growing at twice the rate of its economic growth. He thinks it could put the country in the same position that Japan found itself in during the 1990s after its asset price bubble burst and the country entered what was called the "Lost Decade." Fast-forward to today, and Japan has still not recovered from that market crash. The Nikkei 225 Index, the Japanese equivalent of the Dow Jones Industrial Average, is down 60% since it peaked in December 1989.

The debt problem in China can be summed up in the chart below. You can see that while China's GDP grew 6.9% in 2015, government debt-to-GDP levels rose by 37%.  

 

 

There are myriad reasons for the rise in China's debt. In the wake of the global financial crisis, China embarked on a massive $586 billion stimulus program, mainly focused on infrastructure. But it wasn't enough, as China's growth rate slowed to its lowest level in 25 years last year. And since the official numbers coming out of China are less than reliable, the reality is that the actual growth rate may be even lower. (In January, The Economist cited the highly-unlikely consistency of reported GDP growth numbers from the Chinese government, saying that the actual growth rate last year was more likely in the 5% to 6% range.)

It's not just the government that's been trying to prop up growth with debt, either. Private companies are getting in on the act. Corporate debt is now estimated at 180% of GDP, up from 160% in July. That's more than double the corporate debt rate in the United States.

Add to all this the uncertainty surrounding China's currency, its shadow banking system and growing discontent from its population, and it paints a grim picture. Simply put, when it comes right down to it, we simply just don't know just how bad things are in China.

How We'll Profit From China's Weakness...
As I mentioned before, Jared has profited from China many times before. One of his favorite ways has been betting against "the Amazon of China" -- Alibaba (NYSE: BABA).

The company operates online and mobile marketplaces focused on retail and wholesale trade, where you can buy anything from electronics to clothes to cars to an actual airplane.

The company accounted for 75% of all online shopping in China last year. While having this much exposure and control means big profits when consumers are spending and growth is positive, it means Alibaba will really feel the pinch as growth slows and consumers tighten their wallets.

And that's what is happening now as Chinese retail sales growth continues to weaken...  

 

 

Analysts are growing more bearish on BABA. In the past 90 days, we've seen estimates for the current and next quarter drop by 19.6% and 17.6%, respectively. In the same period, estimates for the current fiscal year have fallen 18%, and fiscal 2018 estimates are down another 17.5%. 

 

 

Alibaba is scheduled to report earnings in about a month. Right now, the chart is telling us we have a perfect entry point for a bearish trade. 

 

 

After rebounding from the dramatic sell-off last summer, shares have been stuck in a range between $74 and $82 for more than a year. Support has been fairly strong, with the stock respecting its 200-day moving average, which now stands near $75.

While I believe the factors I have laid out could easily break BABA down below its 200-day moving average, I would rather err on the side of caution and target $76.20, slightly above that support level.

But let's face it: a 2.8% drop doesn't leave much meat on the bone. The risk-reward set-up just isn't that favorable. But rather than short the stock outright, we can use the simple put-option strategy Jared uses with his Profit Amplifier readers to turn that 2.8% drop into a 22.2% profit.

Unfortunately, I can't give you the exact details of the trade today. It wouldn't be fair to Jared's Profit Amplifier readers. But right now, you can sign up for Jared's service for only $49 a month and receive a step-by-step guide on how options work as well as all the details for Jared's trades. And if you sign up and find it's not for you, then you can cancel at any time. If you'd like to learn more, you can check out this link. This offer won't last long, so you'll need to act quickly.  

Francisco Bermea does not personally hold positions in any securities mentioned in this article.
StreetAuthority LLC does not hold positions in any securities mentioned in this article.