Alibaba Group (NYSE:BABA) has performed well in recent months. Alibaba stock rallied from the $160/share price level in August to around $200/share earlier this month. Just off its 52-week high ($203.43/share), is there more upside for Alibaba?
Some signs point to yes. Shares may be richly valued, but the growth story is far from over for Alibaba stock. Pent-up investor demand in Asia may mean more upside in the short term.
But this is not an opportunity without caveats. As InvestorPlace’s Vince Martin recently discussed, BABA stock is not direct ownership in Alibaba. Today’s high BABA share price may not reflect the risks of the stock being a variable interest entity (VIE).
Add in the risk of a China economic slowdown, and owning the Amazon (NASDAQ:AMZN) of China appears less attractive. Weighing risks against opportunities, it’s tough to make a bull (or bear) case for BABA stock today.
Is The Hong Kong Listing Good or Bad for Alibaba Stock?
When Alibaba Group announced earnings on November 1, the company posted strong results. For the quarter ending September 30, 2019, Alibaba earned $1.86/share, beating estimates by $0.35/share. BABA stock also beat on revenue ($16.91 billion actual vs. $16.53 billion consensus). Sales were up 40% year-over-year.
Strong results early in November were followed by Alibaba’s successful Hong Kong listing on November 26. The company raised $13 billion. Strong demand from Asian investors drove demand, sending the Hong-Kong listed stock up 12.2% from its listing price.
But does this benefit investors in the U.S.-listed American Depository Shares? The $13 billion capital raise was dilutive, but the company could put this money to work, especially in its fast-growing cloud business. But this pivot to Asian markets is worthy of concern for U.S. investors.
Amidst the trade war, there were rumors of Chinese stocks being delisted from U.S. exchanges, but the Hong Kong listing was years in the making. The next move for Alibaba is to get their stock to qualify for Stock Connect. Stock Connect allows investors in Mainland China to buy Hong Kong-listed stocks, and vice versa.
Since the Hong Kong listing is secondary, Alibaba Group must get permission to qualify for Stock Connect. But speculation that Mainland Chinese may soon be able to buy the Hong Kong-listed shares has helped demand.
The HK listing trades at a slight premium to the U.S. listing. Arbitrageurs have capitalized on the spread, and their involvement may help ensure this spread remains low. This is good for U.S. investors, who may see more upside, even if the action is happening on the other side of the world.
BABA Stock Is Pricey Bet in Uncertain Times
Despite all the growth potential, it is important to note that Alibaba stock trades at high multiples. Shares of BABA currently trade at forward price-to-earnings (forward P/E) ratio of 27.1. This is much lower than Amazon’s forward P/E (85).
But on an enterprise value/EBITDA basis (EV/EBITDA), BABA stock trades at a premium to Amazon. Alibaba Group’s trailing twelve-month (TTM) EV/EBITDA ratio is 30.6. Amazon’s is 26.3.
While this is a slight premium, it does show that Alibaba, like Amazon, has many priced-in expectations. If the company falls short of its impressive growth projections, shares could take a big tumble.
There are many factors that could get in the way of Alibaba stock. The first is the U.S.-China trade war. Throughout last month, investors sighed in relief as it seemed the two powers were looking to make a deal. But Chinese insiders are mixed whether the touted “phase one’ deal will get signed by January 25 (the Chinese New Year).
Add in rumors that President Trump will wait until closer to the 2020 elections to make a deal, and its tough to handicap this scenario.
But the trade wars are not the biggest macro risk for Alibaba Group. A slowdown in the domestic Chinese economy poses a greater threat to Alibaba’s growth. Slowing growth hurts China’s plans to pivot from an export economy to a consumer-driven one. And that move to a consumer-driven economy is at the core of the bull case for BABA stock.
Bottom Line: All Bets Are off for Alibaba Stock
Despite an uncertain macro environment, Alibaba Group is flying high. With the successful Hong Kong listing, U.S.-listed shares have reached record highs. Once Mainland Chinese investors can buy in, shares could see more upside.
But as I pointed out in prior analysis, it may be too early to buy BABA stock. With the recent rally, I stand by that thesis. Alibaba Group may be a screaming buy if US investors get skittish. Buying Alibaba stock on short-term volatility may be the smarter play.
The long-term catalyst (China’s emerging middle class) is still in play. But don’t chase the opportunity. Wait for a reasonable valuation to make your move.
As of this writing, Thomas Niel did not hold a position in any of the aforementioned securities.
