China offers both promise and risk. A key to investing often is to steer clear of markets when other investors become overly enamored with them and to look for a better time to buy. The advent of exchange-traded funds (ETFs) that go short now allows investors to profit from markets that are falling. China is one market where I have used this technique twice successfully in the past two months.

I advised subscribers of my ETF Trader service to buy the ProShares UltraShort FTSE/Xinhua China25 (FXP) and the investors who purchased and sold the ETF when I recommended were able to notch combined profits of almost 20% from the trades. I first recommended FXP on April 19 and opted to issue a sell signal on May 25 to produce a gain of more than 16%. When the Chinese market began showing further signs of weakness, I chose to recommend the fund again on June 3 to earn additional short-term profits. I decided to lock in another profit on June 8 when I advised selling the position as the market began to recover. Stock markets worldwide are up today, but such rallies have proven to be short lived in recent weeks.

For those who want to consider shorting China again, here is a brief description of FXP. It seeks daily investment results, before fees and expenses, which correspond to twice the inverse of the daily performance of the FTSE/Xinhua China 25 index. That index essentially represents the top 25 stocks in China. So, if the Xinhua China 25 falls 2%, FXP is designed to rise 4%.

FXP’s underlying index, FXI, has dropped precipitously since April, as the preceding chart shows. Indeed, FXI broke below its 50- and 200-day moving averages in late April. This is good news for FXP, even though you can see in the chart above that FXI has taken occasional but fleeting turns for the better in the last month or so. There is no compelling reason to think that the downward trend in FXI will reverse anytime soon.

Right now, China appears to be the weakest emerging market of all. If global emerging markets have had a rough 2010, China has taken the biggest beating. The Shanghai Stock Exchange has lost 20.9% since the start of the year, putting it officially into bear-market territory. The market dropped more than 9.7% in May alone -- its worst monthly performance since September. Notwithstanding China's strong growth rate of 11.9% in Q1, Shanghai is now the world’s worst-performing stock market in 2010 -- just behind crisis-ridden Greece.

I believe the downward trend in Chinese stocks has further to go. One reason is the country’s deflating real estate bubble. A typical 1,000-square-foot apartment in Beijing now costs about 80 times the average annual income of the city's residents, compared with historic levels of three or four times annual income. Higher down-payment and mortgage rates have already started to let the air out of the Chinese real estate balloon.

Although real estate prices rose more than 12% year over year across China through April, Bloomberg reported that property prices in the capital have dropped 31% in just the past month alone. The property sub-index of the Shanghai Composite already has slid 28.5% since the start of the year and 46% since its July 2009 peak. That is an abrupt reversal.

The brunt of that financial pain no doubt will be felt by Chinese banks. Analysts warn that Chinese banks can withstand a decline in home prices of 30% to 40% before collapsing. Property sales in Beijing, Shanghai and Shenzhen fell as much as 70% in May. With the market in Beijing, Shanghai and Shenzhen already dropping, it's only a matter of time before the erosion in real estate prices spreads throughout the country and causes big trouble for China's banks.

Another major concern is that China reported a trade deficit of almost $8 billion in March, compared with a $24-billion surplus in October. That's a huge change in just six months.

If you are reluctant to make a leveraged investment on China’s continued decline, there is now a single-beta fund that allows investors to short the Chinese stock market. The ProShares Short FTSE/Xinhua China 25 (YXI), launched on March 16, 2010, seeks daily investment results, before fees and expenses, which correspond to the inverse of the daily performance of the FTSE/Xinhua China 25 index. So, if the Xinhua China 25 falls 2%, FXP is designed to rise 2%. This fund has less risk than FXP, but the bet against the Chinese market is the same. I think China’s decline is a major theme for 2010, so you now have two ways to short Chinese stocks.

If you want my advice about buying and selling specific ETFs, I invite you to check out my ETF Trader advisory service. I now have six profitable trades in a row, including three double-digit percentage winners. As always, I am pleased to answer your questions about ETFs, so do not hesitate to email me by clicking here. You may see your question answered in a future ETF Talk.