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China On Margin; Oh My

China traders on margin accounts is a thought both wildly exciting, yet utterly terrifying at the same time.  Even more so in the wake of $10 billion in fraudulent currency trades discovered just last week. 

Chinese markets have had a long standing reputation as being nothing more than unmonitored casinos plagued with corruption and insider trading.  What could possibly go wrong?

According to the WSJ, the Hong Kong and Shanghai stock exchanges have published an overhaul of rules governing a new trading link that will open China's tightly held capital markets to the investing public, ahead of a launch that could take place as early as end of October.

The Chinese government has vowed to encourage further capital flow and open the country’s markets to international investors and conceded previously that numerous reforms would have to take place.  Such reforms risk destabilizing its economy, which is still veiled by strict capital controls.  Therefore the government has been implementing them little by little.

The Shanghai-Hong Kong Stock Connect program will also allow investors in mainland China to buy Hong Kong-listed stocks for the first time, while also allowing foreign institutions holding renminbi in London, Singapore and Taiwan to directly invest these funds in China, a move intended to broaden the appeal of the Chinese currency in overseas markets. Foreign investors currently account for just 1.6 per cent of China’s total market capitalization according to ft.com.

Hong Kong's exchange said it would conduct an additional practice session to fully test its clearing systems, scheduled for October 11 with talk that trading could commence on October 27th, according to local media reports.

The updated rules include measures that would allow for margin trading, or buying stocks using money borrowed from brokerages, via the new trading link. The exchanges—addressing concerns about "mischievous behavior" and "quota hogging"—will also implement a mechanism to prevent manipulation of daily trading limits, according to a circular sent to brokers Friday.

One can already hear the fear mongers prepared to post in their blogs that this move will signal the remnimbi becoming the world's global currency.  A thought China has long had however it's a long way from saying you'll do away from corruption, to actually doing so to a sufficient level that you earn the trust of global investors with their portfolio. 

Nonetheless, this is a encouraging step in China's promise of capital reforms to attract foreign investors.  Their markets have greatly under performed its Western counterparts.  Take one guess which direction it will head *if* investors feel the testing of the new rules appears adequate.

FXI and EDC (3x bull) are just two ways we, in the U.S., can play Hong Kong/China/emerging markets via ETFs.   I personally would prefer an ETF versus individual Chinese names as a way to limit my exposure to, shall we say, the possibility of questionable balance sheets in any one name.  Both ETFs listed offer good liquidity, trading over $1 million shares per day for easy order fills and FXI may be offered commission free if held over 30 days.  Check with your broker as this program and list of eligible ETFs varies.  You may also have to enroll in the program itself before initiating the trade.

A warning:  EDC may not be suitable as a long hold due to its structure and may be more suitable for day traders.  Read its prospectus thoroughly before initiating a position or consult with your trading adviser.

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