Hunting for Opportunity in the World's Most Hated Stocks
Chinese tech stocks plunge in 2021... Regulatory uncertainty seems to have no end in sight... Hunting for opportunity in the world's most hated stocks... The beginning of the end of the 'super app'... A lot of Chinese outsiders are missing this point... 'Hated' can turn to 'loved' very quickly...
Without a doubt, these are the world's most hated stocks right now...
I (Brian Tycangco) am talking about Chinese technology stocks.
To give you an idea of how hated they are today, I turn to the Invesco China Technology Fund (CQQQ), an exchange-traded fund ("ETF") that tracks them... It's down more than 20% so far this year. And another China-tech-focused ETF, the KraneShares CSI China Internet Fund (KWEB), has declined even more... It's down roughly 40% in 2021.
That's a double-digit loss in a year during which the tech-heavy Nasdaq Composite Index has risen about 13% and continued to set new all-time highs. When you put that performance side by side with the losses for Chinese tech stocks, it's a difference of 33 to 53 percentage points... That's a lot!
Even worse, some of the biggest individual stocks in this group have lost more than that this year alone... For example, e-commerce giant Alibaba (BABA) is down almost 50% in 2021.
The declines have been so significant that more than a handful of well-known investors are telling people to stay away from these companies in order to avoid losing even more money.
In today's Digest, however, I want to urge you to consider doing the exact opposite.
I will explain why this hated corner of the market is something you must pay close attention to right now... And maybe, you should even learn to love it before the "crowd" comes rushing back.
China doesn't like to do things half-measured...
No other country does things as fast and as grand as China... The country simply gets things done once it has set its mind to do it.
Chinese officials have been known to tear down entire mountains seemingly overnight just to make way for a new expressway or railroad... They built a national highway system, a national high-speed railway system, plus roughly 100 new airports... all since 2000.
And they're still building...
Just before the COVID-19 pandemic struck, Beijing celebrated the grand opening of a second international airport that doubled the city's annual air-travel capacity to 200 million... And just after the pandemic hit, China constructed a 1,000-bed hospital in just 10 days.
But over the past year, China has gone all-out to do something else far less constructive...
The government under President Xi Jinping has begun regulating the technology sector – starting with the biggest players.
It began in November 2020, when Alibaba was forced to shelve its blockbuster initial public offering of its fintech arm, Ant Financial, whose services were used by nearly 1 billion Chinese people.
Then, the State Administration for Market Regulation ("SAMR") – China's version of the Federal Trade Commission – began scrutinizing monopolistic business practices by the country's leading Internet companies.
It resulted in a record-breaking $2.8 billion fine against Alibaba, largely for its practice of forcing merchants to choose its platform over the competition.
But the SAMR didn't stop there...
It then barred Internet companies from acquiring competitors without its approval. It also called out the practice of companies burning cash to win over market share because, the thinking goes, it's not fair to underfinanced companies.
And even more recently, we wrote about the government's crackdown on gaming in the August 31 Digest...
The Chinese government says children under the age of 18 will only be allowed one hour of online gaming on Fridays, weekends, and holidays, and that hour will begin at 8 p.m. local time and end at 9 p.m.
Finally, earlier this month, Beijing ordered both Alibaba and online-gaming behemoth Tencent (TCEHY) to make their payment platforms open to one another... Previously, they could block users from accessing a competitor's service within their app.
This may not sound like such a big deal to most people living outside of China, but it has been the way Alibaba has gained tremendous success and popularity.
Actions like these explain why shares of gaming stocks like Tencent and NetEase (NTES)... along with others in the tech sector... have dropped considerably in price, becoming hated in today's market.
And of course, you've never used a 'super app' like Chinese have...
You might not be aware of the term "super app." Most people living outside of China have little idea of the super-app phenomenon that's huge in Asia.
It's essentially an online platform – normally an app on a smart device – that contains many other secondary apps that the user might need. As a result, it offers such convenience to users that exiting the main app becomes unnecessary... and at times, difficult.
Tencent's WeChat instant messaging platform is a perfect example... It started out as a free messaging app that now has more than 1.2 billion monthly active users. Within WeChat, users can access multiple mini apps that reach into nearly every aspect of their day-to-day life.
For example, users can pay for anything through their WeChat Pay wallet, watch their favorite movie, stream the latest music on their mobile device, play video games, and even livestream whatever it is they're doing at the moment.
This turns WeChat from something fairly innocuous into a robust super app that has all the functionalities of Facebook, Instagram, Apple Pay, Netflix, Steam, and Snapchat all rolled into one... It monetizes the free experience with value-added services and advertising.
As you can tell, this kind of functionality makes it extremely difficult for smaller Internet companies to get noticed. And it's not just WeChat or Alibaba's Alipay either...
Dozens of companies are trying to emulate their success, from ride-hailing service Didi Global (DIDI) to food-delivery platform Meituan (MPNGF). They all want to be their own super app – keeping users inside their world, where they can continuously market and sell stuff.
Naturally, taking away an Internet company's ability to keep users within its platform is a major blow to business. The less time people spend on an app, the less chance they'll buy something... It's that simple.
This concept is being reflected in the share prices of Chinese tech stocks today. It's not just Alibaba, which we touched on at the outset of this Digest. Tencent, JD.com (JD), NetEase, and others have also sold off. They're all down at least 25% since mid-February...
But the thing is, investors are missing an important piece of the puzzle...
Beijing is just catching up with an industry that has remained unrestrained for decades.
Yes, I know... It's an entirely bizarre notion that a government is behind the curve in regulation – particularly a communist government, which is inherently regulatory.
But that's how things have been in China for a long time...
When the country was desperate for low-cost energy in the 1990s, Beijing let coal producers and coal power plants run unchecked... And when the country underwent a construction boom in the 2000s, steel mills were opening up all over the country, unhindered by government oversight.
And it was the same story for solar and wind energy companies, which boomed in the late 2000s as a result of Beijing's eventual push away from dirty coal... Solar and wind farms were opening up as regularly as convenience stores in China.
Let's not forget the Chinese auto industry, which went from a few hundred thousand in sales annually to overtaking the U.S. market in just 25 years.
Each of these industries was later regulated, and the Chinese government forced companies to work within new parameters to find growth and expand despite new regulations...
The auto industry, for instance, suffered as China limited the number of new gas-fueled cars on the road to ease pollution. These constraints spurred innovation... and eventually gave birth to the world's largest electric-vehicle market. That turned already-innovative car companies like BYD Company (BYDDF) into giants... It also led to a crop of new companies like NIO (NIO), XPeng (XPEV), and Li Auto (LI).
So if that trend continues, by regulating the tech sector today, China isn't killing these companies.
In fact, it's quite the opposite... The government is laying the groundwork for current leaders to innovate and grow, while also leaving the door open for a new crop of potential winners.
And when 'hated' turns to 'loved' in investing, the profits can be remarkable...
Great investors sell stocks when everyone else is buying... and buy stocks when nobody is paying attention to them.
That's the situation this little corner of the global market is in today. Chinese tech stocks are among the most hated – possibly the most hated – group of stocks this year.
But that wasn't always the case...
Last year, this same group of stocks was among the most loved – returning 58% (based on KWEB's performance)... These stocks significantly outperformed the impressive 44% gain in the Nasdaq.
And of course, they're bound to turn around at some point in the future as well...
The current regulatory environment may continue, keeping Chinese tech stocks low for the time being. Unfortunately, we can't predict the future... There's no way of knowing exactly when things will start to turn around. It could last three months... or another three years.
But one thing is clear... China is certainly going to be more – not less – dependent on technology for growth in the coming decade. And with so much hate for this corner of the market today, I'd say we're closer to the end of this regulatory tunnel than the beginning.
No matter how this all plays out, my colleague Dr. Steve Sjuggerud and I will keep a close eye on these developments in the weeks ahead for our True Wealth Opportunities: China newsletter. If you don't already subscribe, I encourage you to consider joining us today...
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The Oldest Trick in the Book
The debt ceiling will be raised, "there's no doubt about it," market expert Todd "Bubba" Horwitz tells our editor-at-large Daniela Cambone. The founder of bubbatrading.com believes Congress will come to an agreement and that Treasury Secretary Janet Yellen's comments about a looming crisis are in line with "the oldest trick in the book"...
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Good investing,
Brian Tycangco
San Juan City, Philippines
September 30, 2021