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An ETF for the Rising Yuan

iShares MSCI Hong Kong is a solid play to capitalize on the growing trend of mainland Chinese to shop for luxury items and properties in Hong Kong.
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iShares MSCI Hong Kong

(EWH) - Get iShares MSCI Hong Kong ETF Report

will be a direct beneficiary of a rising yuan.

Real estate, already a favorite of wealthy Chinese investors, will become relatively cheaper as the Hong Kong dollar remains pegged to the U.S. dollar. The stronger yuan will also allow Chinese consumers to purchase more luxury goods on their Hong Kong excursions.

Although the Chinese government rebuffs American pressure to revalue the yuan every chance it gets, many economists still expect the Chinese currency to rise in the coming months.

Forget China, Look at Sales (Forbes)

Most economists are focused on the economic arguments (naturally). The Asian Development Bank recently increased its GDP growth forecast for 2010 to 9.6%, and inflation reached its highest level since 2008 back in February.

However, not all economists believe that allowing the currency to rise is a viable solution to inflation. China has other tools at its disposal such as raising interest rates and tightening monetary policy. In March, lending growth was about 30% below analyst estimates and also down the same amount from February.

More importantly, the Chinese have steadfastly refused U.S. demands for a stronger currency, pointing out that it is in neither country's economic interests. Chinese exporters would lose out, but unfortunately for American politicians, other developing nations would pick up the slack and leave the U.S. trade deficit relatively unchanged. At worst, it could increase the U.S. trade deficit if the country cannot find cheaper substitutes for current imports.

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Finally, a counterpoint in the economic data has hardened the Chinese position: China had a trade deficit in March for the first time since 2004. Therefore, short of a political decision to placate American politicians, the Chinese will not adjust the currency until they believe it is in their best interest and only after they've exhausted other policy tools.

If you expect a change soon, however, and want a way to play a rising yuan, your best strategy is to bypass the currency and aim to buy what the Chinese buy.

Back in 2007 and 2008 when the yuan was rising amid rising oil prices. The price of oil advanced to $150 per barrel as the Chinese government stockpiled fuel ahead of the Olympics, and it was likely joined by Chinese speculators who could now engage in a carry trade with the U.S. dollar. The yuan stopped appreciating in July and so did oil.

What are Chinese buying today? One area of interest is real estate. Because Beijing and Shanghai have some of the highest real estate prices in the world, the Chinese look abroad. In Hong Kong, one research firm estimates that mainland Chinese constitute 19% of the buyers of luxury properties.

EWH is uniquely positioned to capture this buying trend, which is not limited to Chinese demand for Hong Kong properties. Unlike other country ETFs, EWH is loaded with real estate firms. The top two holdings in EWH are Sun Hung Kai Properties and Cheung Kong Holdings. More than 25% of the holdings and more than 30% of the assets are in the sector.

Mainland Chinese aren't just coming for property though. Many Chinese take shopping trips to Hong Kong to load up on luxury goods, which are expensive in China due to high tariffs and taxes. The influx of shoppers is causing the Hong Kong retail market to evolve, with luxury boutiques replacing department stores to cater to mainland Chinese demand.

In February, mainland Chinese visitors to Hong Kong increased by 49% and sales at department and luxury stores rose by the same amount. Overall, retail sales in Hong Kong increased 36%, the largest one-month increase in more than two decades.

If and when the Chinese currency is revalued, the trend in real estate and shopping will accelerate. EWH is a solid play that will capture that trend, but even if the currency doesn't rise, it's well positioned for growth.

-- Written by Don Dion in Williamstown, Mass.

At the time of publication, Dion was not long any fund mentioned.

Don Dion is president and founder of

Dion Money Management

, a fee-based investment advisory firm to affluent individuals, families and nonprofit organizations, where he is responsible for setting investment policy, creating custom portfolios and overseeing the performance of client accounts. Founded in 1996 and based in Williamstown, Mass., Dion Money Management manages assets for clients in 49 states and 11 countries. Dion is a licensed attorney in Massachusetts and Maine and has more than 25 years' experience working in the financial markets, having founded and run two publicly traded companies before establishing Dion Money Management.

Dion also is publisher of the Fidelity Independent Adviser family of newsletters, which provides to a broad range of investors his commentary on the financial markets, with a specific emphasis on mutual funds and exchange-traded funds. With more than 100,000 subscribers in the U.S. and 29 other countries, Fidelity Independent Adviser publishes six monthly newsletters and three weekly newsletters. Its flagship publication, Fidelity Independent Adviser, has been published monthly for 11 years and reaches 40,000 subscribers.