Bargain or trap? China’s tech stocks are now half price

A crackdown on tech by Beijing could be a buying opportunity, writes Sam Benstead

Chinese technology stocks have plummeted after a crackdown by Beijing, but low prices for profitable and innovative businesses could reward bargain hunters who are ready to stomach short-term volatility.

Shares in the e- commerce group Alibaba and internet giant Tencent have fallen by nearly 40pc from their peaks this year after they were hit by interventions from watchdogs. Regulators fined Alibaba 18.2bn yuan (£2bn) in April after an anti-monopoly investigation and last month ordered Tencent to end exclusive music licensing deals with major record labels.

Their shares are now half- price according to a popular measure of value used by investors. Alibaba’s shares now trade at 19 times the company’s profits over the past 12 months, a comparison known as the price-toearnings ratio, while Tencent shares trade at 20 times – in both cases half their averages over the past five years.

That represents a substantial discount to American rivals. Shares in Alphabet, which owns Google, Facebook and Apple trade at around 30 times their profits and Microsoft at 39 times. Amazon and Netflix shares are about three times as expensive as China’s tech giants, trading at 57 times their profits.

Buying leading technology stocks when they are down in the dumps has rewarded brave investors in the past.

Star fund manager Terry Smith bought Microsoft a decade ago when it was considered past its best but its shares have since risen 12-fold. Facebook shares have meanwhile doubled since Mr Smith bought them for his £27bn Fundsmith Equity fund in 2018, when the company was hit by the Cambridge Analytica data scandal.

In America, the legendary investor Warren Buffett has made four times his money from a $ 35bn (£ 26bn) investment in Apple shares, which flatlined between 2015 to 2017. His investment is now worth $135bn.

According to Dale Nicholls, manager of the £1.7bn Fidelity China Special Situations investment trust, now is the time to buy Chinese technology stocks. “History teaches us that these times can be the most opportune to invest,” he said. “We are seeing many tech companies now trading at historically low valuations and at significant discounts to global peers.”

Morningstar, the financial data group, said Alibaba shares were trading at 47pc below their “fair value” – a measure that reflects how much money the business makes and is expected to make in the future.

Chelsey Tam of Morningstar said: “Despite recent uncertainty we expect China and Asia’s digital commerce industry to keep growing as it penetrates less developed areas, internet and mobile phone adoption spreads and consumers have more disposable income.”

Tencent shares trade at a 31pc discount to Morningstar’s calculation of its fair value. Nicolas Ziegelasch of Killik & Co, the wealth manager, said the company had strong prospects and could grow its profits by 15pc a year for the next five years.

“The group continues to face regulatory scrutiny, but management reiterated in its latest financial update that it was compliant,” he said. “We do not believe that this will significantly affect its long-term growth rate.”

Mr Ziegelasch added that Tencent was continuing to expand into new areas such as video conferencing – which has attracted more than 100 million users – and healthcare.

Howard Wang, manager of the £440m JP Morgan China Growth & Income investment trust, said Chinese technology giants were still excellent businesses despite their falling shares.

“We still think many of these companies can grow at a double- digit pace for years into the future,” he said. “The recent news has driven down share prices and now valuations of some stocks look enticing.”

Mr Wang’s largest investments are Tencent and Alibaba, together with Meituan, a food delivery company, and Pinduoduo, an e-commerce firm.

But other investors believe that political risk in China has undermined the investment case for its top technology stocks. Gerrit Smit of Stonehage Fleming Investment Management said American technology companies represented a better bet.

He has halved his position in Tencent since the crackdown. “These new regulatory measures cause huge investor uncertainty, increase business costs and dampen profit projections,” said Mr Smit.

Instead he owns a who’s who of American technology companies in his Global Best Ideas fund, including PayPal, Microsoft and Amazon.

The best way for DIY investors to own Chinese stocks is via a fund or investment trust. The largest include Fidelity China Special Situations, Schroder ISF Greater China and JP Morgan Greater China.

‘History teaches us that these times are the best to invest. Tech shares are significantly discounted’