Options Traders Say Fade the China Rally

Options Traders Say Fade the China Rally
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It's the breakout no one is talking about: China! But is there more room up?

If options activity is any indication, the answer is no.

In the last five trading days, the iShares FTSE China 25 ETF, FXI has gapped up over 2 percent through its 200-day moving average.

On Thursday, we noticed unusual options activity in the ETF. With the underlying at $37.23, one trader sold 20, 000 Jan. 34/38 strangles and bought 30, 000 Jan. 25 puts, for a net credit of $3.63 million.

(Read More: A Trough for China? )

This sounds complicated, but here's the deal: This trader has a huge bet that FXI remains range bound at this point while adding a little protection. This spread will be profitable if FXI is between $32.18 and $39.82 at January expiration in 92 days. These breakeven points are close to the ETF's 52-week high and low, which could act as support and resistance and help to keep FXI range bound.

Because this spread is unhedged on the upside and could produce potentially unlimited losses should FXI rally hard into expiration, I will be on the sidelines for this one. (Read More: China Economy Hits Bottom, Is It Time to Buy Stocks? )

A better trade, in my opinion, would be to turn this into an iron condor by buying calls at a higher strike than was sold. This will reduce potential absolute returns but also reduce margin and therefore can actually increase return on investment. Or, if you are just a good 'ole stock trader, I'd trade the range, shorting FXI around $39 and buying into position back down near $35.

Brian Stutland is the President of Stutland Equities and a contributor to CNBC's "Options Action ."

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