I believe we’ll look back at Thursday as the Tipping Point for China Small Cap stocks. It’s happening a little faster than I thought it would, and that’s great for us believers who want to be opportunistic.

If you were following this tome during the February/March bloodbath, you will recall I predicted the demise of all things smaller and China if China Media Express (CCME) turned out to be fraudulent. While the jury is still out on that one, it’s obvious there’s Trouble in River City.

Post CCME any blogger who could publish a fabricated report could knock 40% off a stock overnight. You could see the shorts piling on in advance of the “to be released” Cyber Smear. The legitimate researchers made a fortune identifying the fraud, but there have clearly been some abuses on that side of the ledger.

The market assumed every China based small cap was fabricating all its numbers, and priced accordingly. I believe about 1/3 of the China small caps are publishing numbers with some level of inaccuracy, so there are still problems to deal with.

Here’s the chart of the stock that I believe is turning the tide:

China Biotics is looking like the hero we have needed. This stock has remained on my buy list through the blood bath as I had cautious faith. CHBT has rebounded beautifully, and has recaptured nearly all the loss from Feb/March.

On Thursday morning, Citron Research accused them of fabricating their numbers, and the stock swooned. I sold my position as I watched it drop, did some research, watched it trade, and bought it back.

Citron references a research report, complete with pictures and all sorts of accusations of fraud. This report had already been released in early March, and they were just bringing it back up.

I read the report, but then I looked a little further. No author claims to have written the report, and there’s a claim the report is associated with the China Economic Review.

So, I went to www.chinaeconomicreview.com, and found a rather robust web site that appears to be a very legitimate source of information.

Yet, when I searched the site using the words “China Biotics”, there were no search results. I also perused a few of the articles, and learned everyone one of them has an identified author.

If this wasn’t enough, the stock’s behavior told me all I wanted to know. On Thursday, the stock traded a whopping 1.742 million shares, dropped 20% briefly, then rebounded in a big way to close nearly where it started.

Friday in a down market, CHBT made a new 2 month high of $12, and appears to be right back on track to move even higher. If you had the courage, you could have bought this one at $8 less than a month ago.

Now, if you’re long, this looks great. However, if you’re short this stock, you do not like Thursday’s action one bit, and you might be moved to close out your short position as it’s not worth the risk of holding.

Thursday’s action in CHBT is, in my view, the likely Tipping Point for the short sellers in the China Small Cap space. The smear simply didn’t work.

I bought CHBT back a little higher than where I sold it. Traders use the term “Whipsawed” by the market, but I think I made the right move.

I still believe this one is going to $20. But, let’s move on to my new #1 China small cap pick for 2011:

For my #1 China small cap stock for 2011, sign up for a trial subscription by visiting www.emergingchinastocks.com.

Warmest Regards,

Larry Isen

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