Trending lower since October, what’s the next move for Alibaba (NYSE:BABA) stock? Given its recent negative news, it makes sense why many have bailed on this Chinese e-commerce play. Yet, while some are heading for the hills, others see opportunity to buy the dip.
But who’s right, and who’s wrong?
How about both? Sure, one can argue that recent headlines don’t do much to change the bull case. But, although valuation is reasonable relative to growth, investors may further price-in a “China discount” into the stock. This could shares could fall further, perhaps back down to between $200 and $210 per share.
To put it another way, the sky may not be falling when it comes to Alibaba. But it’s too early to buy the dip at today’s prices. Shares aren’t going to crater, but a further 20% decline could happen in the near term.
With this in mind, taking a wait-and-see approach may be the best move for now.
BABA Stock and U.S. Delisting Risk
What’s been weighing down Alibaba? Namely, the risk of its shares losing their U.S. stock market listing. The Holding Foreign Company Companies Accountable Act sailed through Congress, and will likely be signed into law by President Donald Trump.
The act requires U.S.-listed foreign companies to comply with more stringent auditing standards within three years. If they fail to do so, their shares face the risk of losing their U.S. market listings.
But, while investors have sold BABA stock on the news, they may be jumping to conclusions. As InvestorPlace’s Wayne Duggan detailed on Dec. 14, the delisting risk is nil. Given it’s in China’s interest to have its largest tech company continue to trade in the U.S., chances are the company will comply with regulators.
Also, consider how this bill could harm Wall Street’s competitive edge against Chinese financial markets in Shanghai and Hong Kong. This could drive the U.S. to relax this soon-to-be legislation, before it negatively affects America’s FIRE economy.
Yet, while the odds of Alibaba losing its U.S. listing are minimal, that doesn’t mean it’s all uphill from here. While the stock sells at a discount to its U.S. e-commerce equivalent, investors may not be done fully pricing in a “China discount” into shares.
With the aforementioned regulation, coupled with President-elect Joe Biden’s more nuanced but not strikingly different approach to China, BABA stock may head lower before it heads higher.
Investors Could Further Price “China Risk” into Alibaba Shares
A key argument made by Alibaba bulls is the stock’s low valuation. Relative to both its own growth, as well as relative to the valuation of its stateside peers. For example, this company currently sports a forward price-earnings (P/E) ratio of 24.6x. Compare that to Amazon (NASDAQ:AMZN), which trades for 91x next year’s earnings.
Both benefit from the e-commerce megatrend. And both share similar levels of growth. So, what’s behind the sharp valuation discrepancy? It all has to do with perceived risk of investing in a China stock like Alibaba rather than a U.S. stock like Amazon.
But, while this discount already looks overdone, further handicapping of “China risk” into BABA stock could mean additional near-term declines. I know what you are thinking. With Biden entering the White House next month, shouldn’t the “China discount” narrow?
Yes and no. Sure, Biden’s approach to China will likely be more moderate than Trump’s. But, even if his administration’s approach takes a more diplomatic tone, don’t forget Biden himself has said “the United States does need to get tough with China.”
If Biden continues to keep current China policies as-is (like he plans to do with tariffs), investors may further price a “China discount” into Alibaba stock. How much further? Given its already low forward P/E relative to growth, shares don’t run the risk of falling that much far from here. But a contraction down to a forward P/E of 20x (or around $207 per share, based on Fiscal 2021 consensus) could happen.
I may be splitting hairs here. But waiting for another 20% dip may be worth it.
Sit Tight for Now
With e-commerce megatrends on its side, and double-digit growth in the years ahead, there’s still a long-term bull case to be made for Alibaba. But, given investors may not be done pricing shares to reflect its China risk, it may be premature to buy now at between $250-$260 per share (down from its 52-week high of $317.14 per share).
If the sell-off continues in the near term, and shares fall back towards $200-$210 per share, consider it a screaming buy. But, for now, hold off on BABA stock.
On the date of publication, Thomas Niel did not (either directly or indirectly) hold any positions in the securities mentioned in this article.
Thomas Niel, a contributor to InvestorPlace, has written single stock analysis since 2016.