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AlphaShares Monthly Letter: June 2011

AlphaShares Indexes June 2011 2011 1 Year 3 Year
AlphaShares China All-Cap Index (NYSE: YAO) -3.41% 2.77% 18.02% 7.31%
AlphaShares China Small-Cap Index (NYSE HAO) -3.75% -6.17% 18.16% 12.74%
AlphaShares China Real Estate Index (NYSE: TAO) -3.61% -2.58% 19.36% 7.34%
AlphaShares China Technology Index (NYSE: TAO) -6.32% 1.85% 20.11% 17.39%
FTSE/Xinhua China 25 Index -4.76% 0.63% 9.42% 1.17%
CSI 300 (A-Shares) 2.45% 0.24% 23.98% 4.78%

China News:

The Chinese government's number one focus on the economic front has been inflation control. The People's Bank of China raised its reserve ratio for banks 12 times and interest rates 4 times since the start of last year, while also raising loan and deposit rates in attempts to combat price increases. However, inflation fears eased after Premier Wen declared "We are confident price rises will be firmly under control this year" in an editorial piece he penned himself for the Financial Times on June 23rd. The uncharacteristically public and upbeat note on the inflation fight by China's top leader gave a boost to Chinese equity markets, which had sold off over -9% by midmonth, to recover some of those steep losses by month's end. Anti-inflation policies have been driving equity volatility since last fall, and one would expect prices to rein in to the government's targeted range after such a widely publicized endorsement - perhaps signaling the end of the tightening cycle may be closer than previously expected.

The China Daily reported that the yuan's trading band against the US dollar may widen "soon" from 0.50% to 1% per day. A wider trading band would help form a more market-based exchange rate, which has been widely encouraged by China's trading partners. In monthly trading, the yuan's 0.23% appreciation in June brought its 2011 appreciation versus the US dollar so far to 2.21% YTD. With a depreciating US dollar, strong local currency performance enhances US investor returns in international equities.

China Equity Markets:

The AlphaShares China All-Cap Index (Bloomberg: ACNACTR) dropped over 9% MTD on June 20th, but managed a month-end rebound to bring its June return to -3.41%. Through the first half of 2011, Chinese stocks are up 2.77%. Small cap stocks (represented by the AlphaShares Small-Cap index: ACNSCTR) fared better than their megacap counterparts (represented by the FTSE China 25 Index) this month, falling -3.75% and -4.76% respectively. Year-to-date, they have returned -6.17% and 0.63% respectively.

The AlphaShares Chinese Volatility Index, or "CHIX" (Bloomberg: ASCNCHIX), peaked to 23.53 intramonth on worries about a possible Greece default that served as a reminder to investors how delicate the global recovery remains, how important perception can be in driving market performance, and just how fast contagion spreads throughout the world. Anxiety subsided as markets recovered somewhat by month's end when Prime Minister George Papandreou obtained enough votes to pass a controversial set of austerity measures - increasing optimism that a default would be avoided. Also assuring global investors was Premier Wen Jiabao reiterating during his travels to the continent at the end of June that China will keep investing in Europe's sovereign bond market. The CHIX finished June at 18.82, up 6.32% from May.

Financials were the worst performing sector this month, down -7.35% as a group. Four of the top five negative contributors to index returns were banks. China Construction (939 HK), Bank of China (1288 HK), ICBC (1398 HK) and the Agricultural Bank of China (1288 HK) fell -12.17%, -12.11%, -9.40%, and -13.94% respectively.

However, longer term prospects for Chinese banks promise to be better, according to John Hawksworth, chief economist at PricewaterhouseCoopers. In his "Banking in 2050" report published by PwC, he predicts that "A fundamental shift in the geography of the world economies will take place." The shift has been "accelerated by the financial crisis as emerging market banks have been relatively shielded from the effects of declining asset values." According to the report, China may overtake the US to become the world's largest banking market by around 2023 - about 20 years earlier than projected before the crisis. The 2008 financial turmoil dragged down asset values of banks in developed markets, while China's economy and wealth have been expanding faster than the US, the current largest market.

China's NBS manufacturing Purchasing Managers Index fell from 52 in May to 50.9 in June, its lowest level since February 2009. Manufacturing, which accounts for about half of China's economy, is moderating as government policies curb demand for housing and cars, power shortages crimp output, and monetary tightening limits company funding. As of month's end, the People's Bank of China has paused for 12 weeks in raising benchmark rates, the longest gap since increases began in October. China's consumer price index (CPI), its main gauge of inflation, reached at 34-month high of 5.5% in May, exceeding the government's annual target of 4%.

Jonathan J. Masse, CFA Dr. Burton G. Malkiel
Senior Portfolio Manager Chief Investment Officer

Disclaimer text

Past performance is no guarantee of future results. The information presented in this letter is for background purposes only and is subject to updating, revision and amendment, and no representation or warranty, expressed or implied, is made, and no liability is accepted by AlphaShares, LLC in relation thereto. This letter is neither an offer to sell nor a solicitation of any offer to buy interests in the Fund. Any such offering is made only pursuant to the Fund’s Private Placement Memorandum and subscription agreement, which should be read in their entirety. No offer to purchase shares in the Fund will be accepted prior to receipt by the offeree of the aforementioned documents and completion of all appropriate documents. These materials have been sent to you in a confidential manner. The information contained herein may be proprietary. No part of these materials may be reproduced in any manner without the Investment Manager’s prior consent.