Emerging and global markets struggled this week as our Emerging Market Timer remained negative, with the EEM clearly trading below its 20-day and 50-day moving averages.
The portfolio already has a sizable cash allocation but we’re going to trim some positions, and leave the 10% allocation to the ProShares Short MSCI Emerging Markets ETF (EUM) in place.
While Sea Limited (SE) jumped 24% yesterday as it reported earnings and revenues that easily beat expectations, we may as well address the Baidu sharp decline right out of the box.
BIDU has been a disappointment to say the least, falling through our 20% trailing stop-loss due to a weak China environment and weak first-quarter earnings.
I had moved Baidu to a hold two weeks ago. My initial recommendation had been on a value basis rather than momentum and my lesson is that without an upturn trend in the stock I should have had a tighter trailing stop-loss.
Baidu is now trading at only 11 times forward earnings and is expected to grow revenues by 16% in the coming year. However, the first-quarter earnings loss of $49 million spooked markets even though they were driven by sharp increases in expenses that should pay off going forward. For example, content costs for iQIYI (IQ) surged 47% year over year to $917 million.
On a more positive note, we need to keep in mind that the Chinese e-commerce market is one of the best secular global growth trends for investors.
Forrester projects that the Chinese e-commerce market will almost double by 2022, reaching $1.8 trillion in sales. To put that into perspective, this means that the Chinese online retail market may be more than double the size of the U.S. market three years from now.
But there was a bit of a warning this week on the gaming side from the head of Tencent’s video streaming business.
Sun Zhonghuai said that while it took the operation only a year to expand its user base from 43 million to 82 million, growth has slowed to the point where only 7 million users were added in the past six months.
The growth rate of ad sales in 2019 on China’s video platforms is expected to decrease to 19% from 37%, according to eMarketer data. In the first quarter of 2019, online ads contributed about 16% of Tencent’s total revenue.
Elsewhere, last week’s India recommendation, ICICI (IBN), got off to a nice start, up 7%, and part of this may be institutional investors rotating to emerging markets somewhat insulated from U.S.-China tensions.
In addition, the rare earths stock recommendation from my January special report on rare earths and electric vehicles, Australia’s Lynas, jumped 27% this week. Driving the stock were indications that China may be applying pressure through their dominance of rare earths as well as news that Lynas has signed an agreement to build a rare earths refining facility in Texas.
The Cold War rhetoric regarding U.S.-China relations may be going too far.
In nominal terms Soviet-American trade in the late 1980s was $2 billion a year; trade between America and China is now $2 billion a day.
There are a lot of grey areas that will be points of contention since in critical technologies it is getting harder to say where commerce ends and national security begins. Fighting over trade is just the start of it. The United States and China seem to be contesting every domain, from semiconductor chips to submarines, from commodities to lunar exploration.
Back to India, Indian Prime Minister Narendra Modi was re-elected and has a strong mandate to reignite his market reform agenda. However, it’s an open question whether he will deliver after his previous attempts fell short. Still, India is doing well and putting up better growth numbers than any large economy.
Outside India and China, hopes were high that Brazil would be a strong market in 2019. But waning confidence in President Jair Bolsonaro has sent the Bovespa down 10% and wiped out gains made since he took power on January 1 on a promise to jumpstart Latin America’s biggest economy.
Meanwhile, Indonesian President Joko Widodo has been declared the winner by a double-digit margin after the bitterly contested election. Jokowi, as Widodo is known, won by an 11% margin over Prabowo Subianto.
Updates
Portfolio Changes:
Baidu (BIDU) moves from Hold to Sell.
Sea Limited (SE) moves from Buy a Half to Hold.
Tencent (TCEHY) moves from Buy to Sell Half, Hold the Rest.
Alibaba (BABA) struggled a bit this week amidst turbulence in China internet stocks, with some support from its recent quarter beating expectations with 51% revenue growth year over year and earnings coming in at $1.27 per share, ahead of the $0.95 per share forecast by analysts and up 39.5% from the same period a year ago.
The quarter’s revenue take of almost $14 billion was driven by core commerce but cloud computing was a standout, up 76%. Alibaba is generating very strong cash flow as well. For fiscal 2019, it generated $15.6 billion with a cash balance of $29 billion as of March 31. Alibaba is also very active in repurchasing shares. I believe that BABA remains a great core China holding. BUY A HALF.
Baidu (BIDU) declined below our 20% trailing stop-loss so we need to sell it. Baidu is now trading at 11 times forward earnings and is expected to grow revenues by 16% in the coming year. The first-quarter earnings loss of $49 million spooked markets even though they were driven by sharp increases in expenses that should pay off going forward. For example, content costs for IQ surged 47% year over year to $917 million.
I still think that there is some significant upside with Baidu and will thus keep it on my watch list. MOVE FROM HOLD A HALF TO SELL AND ADD TO WATCH LIST.
Daimler (DDAIF) was hit hard today but the stock should benefit from reports that the Trump administration plans to delay auto tariffs by up to six months as negotiations continue. Incoming Daimler CEO Ola Kaellenius is planning to cut administration costs by about 20% to offset global trade woes and factory issues.
In addition, China’s BAIC Group is purchasing shares on the open market in a bid to accumulate 4% to 5% of the automaker, according to Reuters.
Zhejiang Geely Holding Group Chairman Li Shufu acquired a 9.7% stake in Daimler last year. BAIC makes Mercedes-branded cars through the Beijing Benz joint venture.
This is a high-quality, conservative play on emerging consumer markets, but given the price of the stock I have it rated a Hold for now. I encourage you to hold this high-quality, income-producing emerging market play too. I will change to a buy if it comes off a few more points. HOLD A HALF.
ICICI (IBN) was up 7% in its first week in the portfolio. Institutional investors are likely rotating from China to India positions and the reelection of India’s president is probably also encouraging to markets. This is a solid, conservative bank with strong retail growth metrics so if you have not yet invested, I encourage you to take a half position. BUY A HALF.
LexinFintech (LX) demonstrated some relative strength this past week.
LX’s 149 million-strong Generation Z target market (those born after 1995) is increasingly the driving force behind China’s consumer market.
This high-growth fintech idea is currently trading at a very reasonable valuation and, if you have not taken a position yet, I encourage you to take advantage of this week’s turmoil to Buy a Half position. BUY A HALF.
ProShares Short MSCI Emerging Markets (EUM) was up this week as it moves opposite the MSCI Emerging Market ETF (EEM). This fund serves as a portfolio “shock absorber” given the volatility and uncertainty regarding the U.S.-China confrontation. If you have not yet taken a position, I recommend you consider it as a cautionary measure. BUY.
Sea Limited (SE) jumped 24% yesterday as it reported earnings and revenues that easily beat expectations.
Revenue for the quarter was $579 million, almost triple that of the same quarter last year, attributable mainly to strong growth in digital entertainment and e-commerce.
Adjusted net earnings were -$32 million, a big improvement from -$144.7 million in the first quarter of 2018 and -$203.6 million for the fourth quarter of 2018.
In particular, its Garena entertainment platform had a standout quarter with revenue jumping 169% year-on-year and 70% quarter-on-quarter. The number of quarterly active users reached 271.6 million, an increase of 114.4% year-on-year and 25.6% quarter-on-quarter.
SE operates three platform businesses in gaming, ecommerce and digital payments, primarily in seven Southeast Asian markets.
If you bought on our recommendation, you should take some profits off the table now. Given that the stock has weathered the recent turbulence very well, I’m moving this to a hold and do expect some profit taking. MOVE FROM BUY A HALF TO HOLD A HALF.
Tencent (TCEHY) reported its first-quarter results, with revenue up 16% year over year—its slowest growth since listing in 2004. This is largely due to Beijing’s crackdown on smartphone games, with Tencent’s revenue from this segment down 2%. Online ad revenue grew 26% and new category fintech was up 44%. WeChat active monthly users were up 7%.
Looking at the full year, analysts are expecting earnings of $1.47 per share and revenue of $59.8 billion, which translates into 26% growth for both metrics. Still, I recommend downsizing your position from a full to a half, at least for the time being. SELL HALF, HOLD THE REST.
ZTO Express (ZTO) showed strength this week following first-quarter results, with top-line revenue up significantly year over year to $682 million. This upside was driven by a 31.5% year-over-year surge in revenues from the company’s express delivery services unit. Higher expenses were somewhat offset by a 41.6% jump in parcel volume to 2,264 million.
ZTO is building an enormous, scalable platform that will further increase efficiencies and lower costs. If you are not yet on board, I encourage you to Buy a Half position right here. BUY A HALF.
Speculative Portfolio Recommendation
Largo Resources (LGORF) was up this week as interest in rare metals jumped alongside media attention to the U.S.-China angle. Please keep in mind that this is an aggressive, speculative idea and play on vanadium. It remains Buy a Half position for speculators. BUY A HALF.
Watch List
NIO (NIO) slipped to a post-IPO of 4.00 as investors show concern over the U.S.-China trade war. The weakness in Nio’s share price comes ahead of next week’s earnings report from the Chinese EV automaker. We will need some sort of uptrend in order to consider any investment.
