Buy ‘cheap’ larger-cap Chinese stocks: JPMorgan

Investors looking for exposure to a potential upturn should pick wisely.

Chinese stock investors should consider using “cheap options” as safer ways to seize gains in the country’s potential cyclical upturn, according to JPMorgan Chase & Co.

The brokerage’s strategists, including Tony SK Lee, favor buying options on larger-cap indexes to position for a potential rebound in Chinese stocks, according to their note issued on Monday. Specific trade recommendations include buying a narrow call spread on H-shares or FTSE China A50, and buying Chinese equities call, contingent on the dollar not falling against the offshore yuan.

Investors are turning more optimistic about the world’s second-largest economy after China’s official manufacturing data registered the highest reading in a year, the latest economic green shoot alongside strong exports and rising consumer prices. Robust manufacturing, combined with a return of foreign inflows and Beijing’s resolve to rescue the market, has helped the Hang Seng China Enterprises Index rebound 18% from a January low.

Implied volatility — a measure of the underlying asset’s future volatility based on option prices — across major Chinese indexes continued to fall in March, the strategists noted. Larger cap indexes, notably the HSCEI and FTSE A50, have implied volatility levels that are at the bottom quartile of their two-year range, they wrote.

In another sign of investors’ improving outlook, HSCEI’s volatility skew also has dropped to the lowest since 2017, indicating reduced demand for protection against steep declines.

Still, given the challenges in China’s growth outlook, “it’s premature to re-enter the market solely based on improving economic activity,” the strategists wrote. They prefer large-cap equities that are supported by corporate buybacks and buying from China’s state-backed funds.