Before Evergrande’s debt crisis, investors in Chinese companies were dealing with another major headwind: government regulations.
It’s an exercise in showing who wears the pants in China. The government there is telling companies: “You operate because we allow you to operate.”
What does that mean for two of China’s largest companies that trade on U.S. stock exchanges?
Research analyst Matt Clark and I dig into the situation to see what the future holds for two Chinese stock giants: Tencent Holdings Ltd. (OTC: TCEHY) and Alibaba Group Holding Ltd. (NYSE: BABA).
Watch it in this week’s Investing With Charles below.
Here are some highlights from our conversation.
2 Chinese Stock Giants
Matt: The Chinese government has gone after cryptocurrency. They’ve gone after big tech. They’ve even gone after little tech. With the exception of mom and pop retail, they’ve hit everyone within China’s borders.
And that includes the two companies we talk about today.
The first, Tencent, is a well-known holding company that does online advertising, fintech, business services and several other segments.
The other one has been billed as the Amazon of China: Alibaba. It’s mainly known as a very large marketplace. In fact, it’s the largest online marketplace in China.
Charles: It’s essentially a hybrid of eBay and Amazon.
It’s funny, people tend to think of the Chinese tech giants in terms of what American tech giants they’re similar to, and there’s not a super good comparison for either one of these. They’re distinctly Chinese, and they have distinct characteristics of their home market. Comparing them to a western company is not fair to them. They do everything.
These two companies are the Chinese economy at this point.
Matt: They are extremely diverse. Companies here in the U.S. tend to put all their eggs in one, maybe two or three baskets. These companies are spread out over a wide range of sectors. So first, give me your take on both these companies.
Rapid Growth in a Huge Market
Charles: I like them both.
Now you have to ask that question: “Am I catching a falling knife right now?” Both of these stocks have been pummeled all year, particularly over the last several months.
Tencent Stock Struggles
BABA Tries to Turn Around
Charles: If you look at what makes them attractive, it’s the same story on both. Both are still very, very, very high growth companies despite being huge.
Alibaba’s market cap is approximately $400 billion or so, give or take a few tens of billions. Tencent is around $600 billion.
If there were two companies outside of the U.S. that had that potential to hit that trillion-dollar market cap mark and go into that elite company with the Apples and Microsofts of the world, it would be these two. These two are big enough to justify that kind of market cap.
So they’re high growth. They’re extraordinarily large, which is actually a negative in some ways. You know the drill, we prefer smaller companies, all else equal. But their size and scope are not such a bad thing in an era in which tech creates natural monopolies.
These guys are the same as Google, Facebook, Amazon, etc… They’re natural monopolies. They’ve not won the monopoly by government fiat or special treatment. They’ve earned it because they became the de facto platform in what they do. So all of that makes them very, very attractive stocks to own.
Downsides for BABA and TCEHY
Charles: Now, what are the downsides here? Neither are cheap at the moment. They’re both expensive stocks based on earnings, sales, and other factors.
But that’s true of tech companies. Tech, in general, is expensive because investors pay up for growth.
The volatility has been a bit high lately. Volatility is not always bad. No one minds volatility when stocks are going straight up, but volatility on the downside is not fun. So these are expensive stocks that have had some pretty significant downside volatility of late.
Crackdown and the Future for These Chinese Stocks
Matt: One thing that stands out for me here is that just recently there’s been a common view that the crackdown from the Chinese government was overreaching. It was a bit too harsh, and it has actually started to push both these stocks up higher.
The Chinese government really never goes back and says what they did was wrong.
But here we have conventional wisdom that suggests that maybe that is the case.
Another thing is that neither of these companies are going to make massive inroads in the United States. Neither of these companies are going to gain footholds in their respective industries here in the U.S. Their power lies abroad. Where their power lies is not just servicing the largest retail population in the world, being China, but also all the other countries within the Pacific sphere, Eastern Europe and Western Asia.
Charles: China’s regional trading partners.
Matt: That is where you’re going to see companies like Tencent and Alibaba flex their growth potential. It’s not going to be in North America. I wouldn’t even say it’s going to be in western Europe. It is going to be in the east, in China and in Asia.
Charles: Given the state of relations between the West and China, there’s absolutely no possibility of Chinese tech companies getting a major presence in the west. There’s too much mistrust right now. But growth within China itself and other trading partners outside of the west is essentially unlimited at this point.
Both of these stocks are trading at levels first seen in late 2017 and early 2018. Last year’s sell-off erased three years of gains.
Matt: Another thing to point out is that both of these companies, while they are big tech companies, they are not subject to this congressional war on Big Tech that we’re seeing here in the U.S. They have to deal with the Chinese government. We’ve already seen what the Chinese government will do, and now they may be paring back those regulations. We have yet to see what Congress is going to do with big tech.
If you want to know which of these stocks we like more as a long-term holding, watch the rest of Investing With Charles here.
Where to Find Us
Coming up this week, Matt will have more on The Bull & The Bear podcast, so stay tuned.
Don’t forget to check out our Ask Adam Anything video series, where chief investment strategist Adam O’Dell answers your questions.
You can also catch Matt every week on his Marijuana Market Update. If you are into cannabis investing, you don’t want to miss Matt’s weekly insights.
Remember, you can email my team and me at firstname.lastname@example.org — or leave a comment on YouTube. We love to hear from you! We may even feature your question or comment in a future edition of Investing With Charles.
To safe profits,
Co-Editor, Green Zone Fortunes
Charles Sizemore is the co-editor of Green Zone Fortunes and specializes in income and retirement topics. He is also a frequent guest on CNBC, Bloomberg and Fox Business.