ETF Expert

One of my radio show and/or radio podcast listeners asked me a difficult question:

"Warren Buffett recently said that American ingenuity will spark an impressive recovery here in the United States. And I remember that you used to discuss ETFs that might benefit from Mr. Buffett's investment allocation. But lately, you've been talking about large and small China ETFs, even China real estate ETFs. If you had to invest in one or the other, would you rather invest in China ETFs or U.S. ETFs?"

My first reaction was to defensively explain the value of diversifying. After all, I am not exclusively investing in foreign markets alone.

But if I had to chose? What if I had to chose only one country? That's a "Sophie's Choice" ultimatum for a U.S. citizen who has also lived in Hong Kong and Taiwan.

In spite of all the knockdowns to the canvas, it's hard to dismiss the entrepreneurial spirit of American citizens. And I don't find myself sharing Jackie Chan's feelings about the benefits of restraining freedom. The U.S. may still boast more freedoms than anywhere on Planet Earth.

On the flip side, in the late 80s, with the 87 stock crash, the Savings and Loan blow-up, and the ensuing tax increases, I found myself gravitating towards Asia. Indeed, I even looked at the protests in Tianmen Square as a sign that China was clearly going to be the next great economic superpower.

Yet it was America's leadership in technology that helped it thrive throughout the 90s. And it was China's uniquely slow, quasi-capitalism that seemed to keep it from making a successful push to the front of the world stage until the 21st century. Simply put, it looks as though I was a decade or more "early on the call."

Nevertheless, none of that really matters right now. Which "child" would I let live and which "child" would I be willing to let be taken away?

With investing, you have to cut your emotional cord entirely. So with this hypothetical exercise that doesn't allow me the joys of diversification, I will turn to several facts. For example, I can look at price movement and other nominal data.

Technical price movement favors China… both with regard to the large-cap and small-cap space. FXI and HAO are both considered to be in long-term uptrends, whereas SPY and IWM are still both mired in long-term downtrends with prices below 200-day moving averages.

There's another bit of info that gives me reason to feel better about investing in at least the iShares FTSE China 25 Fund (FXI). The popular China proxy fell much further than the U.S. S&P 500 from the October 2007 bear, due to a fear the the global growth story had been squashed. Now that the story has received a stimulus reprieve, FXI has picked up 17% year-to-date through (5/15/2009), whereas the S&P 500 SPDR (SPY) found itself down a few percentage points on the year. (Note: SPDR S&P China (GXC) ws up 20% and PowerShares Golden Dragon Halter was up 23.4%.)

Yet another technical sign that favors China? iShares FTSE China 25 Fund (FXI) and Claymore China Small Cap (HAO) both set higher lows in March of 2009; they did not fall as far as they had in November 2008. Meanwhile, the S&P 500 SPDR Trust (SPY) and the iShares Russell 2000 Small (IWM) both broke to brand new bear market lows in March of this year.

If one looks purely at price movement — 4-, 8-, 12-week momentum, 200-day moving average, "higher lows" — it's easier to get behind the China ETFs. At the same time, technical data is not the sole source of info. What about economic indicators like a balanced budget as a percentage of GDP or a trade deficit/surplus?

It should come as little surprise to anyone that China wins most of the economic arguments. It has a mere -3.5% budget balance % of GDP, whereas the U.S has an astronomical -13%! Trade? China has a $300 billion surplus year-over-year, whereas the U.S. has a $730 billion deficit.

What about fundamental value (i.e. bargains)? The S&P SPDR (SPY) has a 3% yield, a 1.9 price-to-book and a first quarter P/E of roughly 14. Some people feel that's a bargain in the 20% undervalued range. In contrast, iShares FTSE China 25 Fund (FXI) is clearly setting a tone where one is paying for growth with a P/E of 21.

Yet American small caps in the iShares Russell 2000 Small (IWM) look pricier with a P/E at 21, while Claymore China Small Cap (HAO) may still be a bit cheaper in the P/E range of 16-17.

All in all, I am still left with a queasy reality. In world markets that are most intrigued with rewarding growth potential, it seems most sensible to invest in a producer country that makes stuff for the world and has a burgeoning middle class. While 9% unemployment in China is a huge concern vis-a-vis the potential for civil unrest, you either believe the emerging country will power forward or you do not. And I believe.

There are some great Warren Buffett-like long-term values… American companies that you might hold for the next 10 years. Even the S&P 500 SPDR (SPY) is a worthwhile value investor's prospect with its 3% yield and history favoring the benchmark's ability to deliver 10% in the coming decade.

But if left with one William Styron Sophie-like choice, I'd choose a China ETF. I'd manage the downside risks with stop-losses, of course. But the China ETFs offer greater risk-reward potential here in May of 2009.

If you'd like to learn more about ETF investing… then tune into "In the Money With Gary Gordon." You can listen to the show "live" or via podcast or on your iPod.

Disclosure Statement: ETF Expert is a web log ("blog") that makes the world of ETFs easier to understand. Pacific Park Financial, Inc., a Registered Investment Adviser with the SEC, may hold positions in the ETFs, mutual funds and/or index funds mentioned above. Investors who are interested in money management services may visit the Pacific Park Financial, Inc. web site.