'Dim Sum' ETFs Offer China Bond Exposure

NEW YORK ( TheStreet) -- The latest fad in exchange-traded funds is ETFs that own bonds issued in Hong Kong and denominated in renminbi, the Chinese currency.

These are known as "dim sum" bonds, after the small plates of food served for breakfast and brunch in southern China.

Two funds investing in these bonds were listed last week, and more are in registration. China's importance in the world economy continues to grow, and the special administrative region of Hong Kong is a key financial center.

China's bond market is growing, and more and more global companies are issuing debt denominated in renminbi.

Companies like McDonald's ( MCD), Caterpillar ( CAT) and Yum Brands ( YUM) have already issued dim sum bonds.

The first two funds to be listed are the Guggenheim Yuan Bond ETF ( RMB) and the PowerShares Chinese Yuan Dim Sum Bond Portfolio ( DSUM).

There are some notable differences between these two funds.

The Guggenheim fund has 37 holdings with an average maturity of 2.6 years and an average coupon of 1.8%, and will charge a 0.65% expense ratio.

The PowerShares fund has only 17 holdings, a 0.45% expense ratio, an average maturity of 3.3 years and a higher coupon, of 3%.

Because of the nature of the market covered and of how ETF dividend payouts work, the dividends of these funds could be different than the yields implied. At this point there is no way to have clarity on the payouts.

Each fund has a combination of government bonds, bonds from Chinese corporations including banks and bonds from foreign corporations.

So why would an investor want to buy these ETFs?

Yields in the U.S. are very low and aren't expected to rise anytime soon. In addition, the greenback appears to be headed lower against multiple currencies. This argues for increasing one's foreign bond exposure, and China's torrid economic growth makes it an attractive investing target.

What's more, many market participants expect China to eventually allow its currency to float freely against the dollar. When that happens, the value of the renminbi is likely to surge, and holders of bonds denominated in the currency would obviously benefit.

The fundamental risk to this scenario lies in China's future growth. There are questions about overcapacity in real estate and the indebtedness of the nation's banks.

I have repeatedly warned readers to avoid China's financial sector, because it seems clear that it will experience the growing pains and debt mismanagement that typically accompany rapid development.

An investor wanting to participate in China's growth would probably be better off buying the WisdomTree Dreyfus Chinese Yuan Fund ( CYB), which is a simple currency fund, or by buying an individual issue dim sum bond. If you think McDonald's can manage to stay in business then its dim sum bond might be less of a credit risk than some of the Chinese bank debt in the ETFs.

At the time of publication, Nusbaum held no positions in securities mentioned.

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Roger Nusbaum is a portfolio manager with Your Source Financial of Phoenix, and the author of Random Roger's Big Picture Blog. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Nusbaum appreciates your feedback; click here to send him an email.