Anything related to artificial intelligence (AI) has been a hot ticket on Wall Street over the past 18 months. Shares of AI chip leader Nvidia (NASDAQ: NVDA) have more than doubled this year, making it one of the best performing companies in the S&P 500 index. But it is telling that the wealthiest investors are not chasing these highs.
Billionaires typically won’t invest their wealth in expensive growth stocks that could be vulnerable to a market downturn. Nvidia could continue to hit new highs this year, but there’s also significant downside risk if the company doesn’t meet Wall Street’s lofty growth expectations.
Billionaires are interested in growing and preserving their wealth. This usually leads them to seek out reasonably priced companies with competitive advantages that are underestimated by the market.
One area these investors are now targeting is China’s $6.5 trillion retail sector, which has been under pressure from a weak economy that is driving down valuations of leading companies. David Tepper of Appaloosa Management and Howard Marks of Oaktree Capital Management were busy buying shares of China’s leading retail companies in the first quarter.
In essence, Tepper’s company sold Nvidia and jumped into Chinese retail stocks. Let’s look at two stocks and one ETF these investors bought this year.
1. Alibaba
Shares of Alibaba (NYSE: BABA) have fallen by 75% over the past four years as competition in China’s e-commerce market increases, particularly PDD holdings‘ Temu and a troubled economy put pressure on sales on Alibaba’s marketplaces Tmall and Taobao.
Alibaba was David Tepper’s largest holding on March 31 after his company more than doubled its stake in the quarter. Tepper is one of the most successful hedge fund managers of the past 20 years. His net worth has nearly doubled over the past five years to more than $20 billion, according to Forbes.
Alibaba operates one of the largest retail marketplaces in China, but it doesn’t sell goods from its own inventory. Instead, it generates a profitable revenue stream from fees and commissions it charges merchants who sell through its marketplaces, including AliExpress. It also has various revenue streams from cloud services, logistics services and digital entertainment. However, online commerce is Alibaba’s largest business.
Last year, the company generated $21 billion in free cash flow on $130 billion in revenue. The stock trades at an incredibly low price-to-free cash flow ratio of just 8. At this bargain valuation, the stock offers significant upside potential if the company can sustain some growth over the next few years.
In the fiscal fourth quarter ended March, Alibaba’s total revenue grew 8% year-on-year, driven by a 45% year-on-year increase in its international trading business. AliExpress continues to experience strong momentum in overseas markets, but management also noted that its Tmall Taobao group saw higher purchase frequency after efforts to be more price competitive.
Alibaba is starting to regain momentum in the Chinese e-commerce market, which explains why Tepper is pleased with the stock’s return prospects at these lower share prices.
2. JD.com
Shares of JD.com (NASDAQ: JD) are also down 75% from their previous peak. JD was a fast-growing company a few years ago, with annual revenue growth of more than 20% year-on-year through 2021. But the challenging retail environment has seen revenue decline by less than 1% in 2023.
Howard Marks’ background includes investing in high-yield bonds and distressed debt, so he’s an expert at assessing risk. This is notable given that his firm added to its stake in JD.com in the first quarter. Oaktree also has positions in several other Chinese stocks, including Alibaba, so he clearly sees compelling value in China’s internet sector.
Unlike Alibaba, JD.com holds inventory that it sells itself, so it doesn’t have the high margins of its peers. However, the company’s competitive advantage lies in its supply chain capabilities. For example, Walmart sells on JD.com’s platform, indicating that the company is an enormously valuable asset to China’s massive retail sector.
JD.com also has growing capabilities in AI that it uses to manage inventory and merchandise sourcing. The company also uses this technology to gather consumer insights that help grow sales and improve customer satisfaction.
After a year of weak sales, JD is using these strengths to its advantage. After becoming more price competitive, it saw higher store frequency and order volume in the first quarter. Total sales grew 7% year-on-year — a significant improvement.
Most encouragingly, increased price competition hasn’t hurt margins. The company still posted a 15% increase in net income from the year-ago quarter. Yet the stock still trades at an incredibly low forward price-to-earnings ratio of 7.3. It’s even cheaper on a price-to-free cash flow basis.
3. KraneShares CSI China Internet ETF
David Tepper also has the KraneShares CSI China Internet ETF (NYSEMKT: KWEB)which is a great option for investors to instantly diversify and benefit from potential upside thanks to China’s leading online retail and entertainment companies.
Below is a list of the top 10 investments in the fund as of August 1 and their percentage weighting:
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Tencent Holdings (10.64%)
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Alibaba (10.29%)
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PDD shares (7.96%)
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Meituan (7.45%)
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JD.com (5.68%)
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Netease (4.43%)
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Tencent Music Entertainment (4.07%)
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Baidu (4.02%)
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KE-Holdings (3.81%)
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Kuaishou technology (3.79%)
From the fund’s inception in 2013 through 2020, a $1,000 investment would have grown to $3,100. But an investor who had held the fund from its inception through its collapse in recent years would still be sitting on a small profit.
The Chinese economy could be significantly impacted by new laws and regulations, so investors probably shouldn’t consider this ETF for a long-term buy-and-hold. However, the prospects for significant returns in the coming years look very positive if leading retail companies continue to show improving sales trends.
The fund has an expense ratio of 0.70%, which is reasonable for a special fund that tracks a specific sector of the market. This means that it costs $7 per year to hold shares for every $1,000 invested.
All in all, diversifying into this ETF is the safest way to profit from the comeback of Chinese retail.
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John Ballard has positions in Nvidia and Tencent. The Motley Fool has positions in and recommends Baidu, JD.com, Nvidia, Tencent and Walmart. The Motley Fool recommends Alibaba Group and NetEase. The Motley Fool has a disclosure policy.
Forget Nvidia: Billionaires Are Scoring Bargains in This $6.5 Trillion Market was originally published by The Motley Fool
