In this article, we discuss 10 Chinese stocks investors are shorting.
NIO Inc. (NYSE:NIO), KE Holdings Inc. (NYSE:BEKE), and TAL Education Group (NYSE:TAL) are some of the stocks that investors are shorting as China’s economy cracks under the pressure of strict lockdowns and a struggling housing market.
The Asian Development Bank (ADB) has slashed China’s 2022 GDP growth outlook from 5% to 4%. The Chinese economy has taken a beating due to the country’s zero-COVID approach and the crisis in its real estate sector. Since February 2022, the government re-imposed strict lockdowns in various cities following COVID-19 outbreak. That development came at a time when many other countries are learning to live with the COVID-19 virus and abandoning severe restrictions. The lockdowns have weakened the consumption pattern of the Chinese consumer, adversely impacting economic growth.
China’s GDP grew by only 0.4% year-over-year (YoY) during Q2 2022 as opposed to a consensus forecast of 1%. As a whole, the Chinese economy grew by 2.5% YoY during the first half of the year. It now needs to grow at a pace of 5.5% for the rest of the year to achieve the revised target of 4% set by the ADB, which itself may be overly bullish. Achieving such a target during a challenging economic environment would certainly require some sort of stimulus from the government.
Real Estate Crisis
To further aggravate the situation, the Chinese real estate market is not showing any signs of stability. The price of new homes dropped by 0.8% YoY during May 2022. Home prices are declining despite the Chinese government accommodating first-time home buyers with a reduced mortgage rate floor and a reduction of 15 basis points (bps) on the five-year prime loan rate. The Chinese real estate sector is going through a debt crisis. Notable property developers like the infamous Evergrande are heavily indebted and failing to restructure their liabilities. On August 1, it was reported that one of Evergrande’s subsidiaries had been fined $1.08 billion for defaulting on its debt repayments.
The issue is escalating as homebuyers are boycotting mortgages, which has already impacted 235 property projects across 24 provinces in China. Previously, it was common for homebuyers to start making mortgage payments before the property project was finished, payments which aided the developer on the construction. However, numerous projects are now facing delays due to the boycott, as homebuyers signal their distrust in the indebted property developers.
These developments could have a ripple effect on the Chinese economy, as the growing middle class used its savings to invest in properties, considering it a haven. It must be noted that Chinese home ownership stood at 96% in 2020. This reflects that significant wealth exists in the real estate sector, and the correction in prices will have a widespread impact on the economy. According to Australian bank ANZ, nearly $220 billion is trapped in unfinished construction projects. Meanwhile, construction has stopped on 13 million apartments in the last 12 months. Uncertainty in the property sector could also hamper the operations of the financial industry, as large-scale mortgage defaults are always considered risky for the financial markets. The Chinese government has used the real estate sector to achieve strong economic growth over the past decade, with the sector accounting for nearly one-fourth of China’s overall economy. The World Bank has highlighted that China needs to take aggressive measures to encourage higher consumption if it wants to maintain a sustainable and balanced growth track.
Our Methodology
Due to the uncertainty in the Chinese economy, investors are betting against several stocks. With this context in mind, we have shortlisted 10 Chinese stocks investors are shorting. The discussion on the short interest in these stocks is based on the percentage float shorted as of July 14. We will look into the probable reasons why investors are shorting these stocks and discuss the future prospects of these companies.
Investors are Shorting These 10 Chinese Stocks
10. Pinduoduo Inc. (NASDAQ:PDD)
Float Shorted: 1.45%
Number of Hedge Fund Holders: 36
Pinduoduo Inc. (NASDAQ:PDD) is a Shanghai, China-based agriculture-centric technology platform that connects farmers with distributors and consumers. Over the last month, Pinduoduo Inc. has lost 12.85% of its value. In comparison, the retail-wholesale sector recorded a gain of 8.29%, while the S&P 500 rose by 6.28% during the same period. Of the 912 hedge funds tracked by Insider Monkey, 36 funds held a stake in Pinduoduo Inc..
On July 11, Eddy Wang at Morgan Stanley downgraded Pinduoduo Inc. stock from an ‘Overweight’ to an ‘Equal Weight’ rating with a target price of $70. The analyst highlighted that Pinduoduo Inc.’s (NASDAQ:PDD high forecasts for the second half of the year could prove challenging for the company to achieve.
The company is expected to announce its Q2 2022 results on August 26. Analysts anticipate Pinduoduo Inc. to report adjusted EPS of $0.38, reflecting a YoY decline of 13.64%. Pinduoduo Inc. faces the prospect of a slowdown in new user acquisition and will need to work on user engagement to stay competitive. As of July 14, 18.35 million shares of Pinduoduo Inc. were sold short. Investors are betting against Pinduoduo Inc. as they expect the stock price to be further impacted by the strict regulations imposed by the Chinese government across numerous sectors.
Apart from Pinduoduo, stocks such as NIO Inc. (NYSE:NIO), KE Holdings Inc. (NYSE:BEKE), and TAL Education Group (NYSE:TAL) have also gained short sellers’ attention.
Here’s what Tao Value said about Pinduoduo Inc. in its Q4 2021 investor letter:
“On the detracting side, one of our largest detractors includes Pinduoduo (ticker: PDD). Pinduoduo (PDD) reported the second consecutive GAAP profit quarter yet missed on the revenue due to nation-wide consumption weakness & scaled back Sales & Marketing efforts. Market disliked it and the stock price plunged on the earnings. In my opinion, the accounting profits proved the original thesis of using S&M to acquire users and using great shopping experience to keep them. After realizing the first growth curve, Pinduoduo now shifted its focus & investment to agriculture. It is still very early, but the reduced size due to price drop warrants a position to watch and continue grow with such a team with strong culture.”
9. Alibaba Group Holding Limited (NYSE:BABA)
Float Shorted: 1.61%
Number of Hedge Fund Holders: 100
Alibaba Group Holding Limited (NYSE:BABA) is a Hangzhou, China-based tech giant that has a footprint in cloud computing, artificial intelligence, entertainment, and, most notably, e-commerce.
As of July 14, 42.68 million shares of Alibaba Group Holding Limited were sold short, up from 39.83 million in the previous month. While Alibaba Group Holding Limited is one of the leading e-commerce companies in the world, macroeconomic headwinds are expected to impact the company’s margins adversely.
To combat the slowdown in the economy, Alibaba Group Holding Limited slashed over 9,000 jobs during Q2 2022 as the company saw its net income decline by 50% YoY. Alibaba Group Holding Limited is also facing regulatory pressure on multiple ends, along with a slowdown in consumption and a weaker-than-expected recovery in demand from the Chinese consumer following the COVID-19 pandemic.
Furthermore, the company is looking to diversify from its e-commerce roots. However, Alibaba Group Holding Limited has yet to deliver on that target. Another e-commerce giant, Amazon.com, Inc. (NASDAQ:AMZN), has successfully built a strong cloud computing business and thriving digital streaming business to diversify away from its e-commerce roots.
Here’s what ClearBridge Investments said about Alibaba Group Holding Limited in its Q2 2022 investor letter:
“After seeding the portfolio with select growth companies in the second half of 2020 and 2021, we have redirected our focus over the last several quarters to risk management. Moves during the second quarter in pursuit of greater stability included reducing consumer discretionary exposure with the sales of Chinese e-commerce and payments provider Alibaba Group Holding Limited (NYSE:BABA).”
8. Trip.com Group Limited (NASDAQ:TCOM)
Float Shorted: 1.92%
Number of Hedge Fund Holders: 32
Trip.com Group Limited (NASDAQ:TCOM) is a Shanghai, China-based online travel company with a user base of over 400 million users. The company claims to have over 1.2 million hotels on its platform spread across 200 countries and 30 million reviews from guests. Trip.com Group Limited was held by 32 hedge funds at the end of Q1 2022.
Trip.com Group Limited has been adversely impacted by the zero-COVID policy in China. The most recent instance of the sudden lockdown imposed in the city of Sanya was on August 8. Tourists are stuck in Sanya as they need to show five COVID-19 negative results in seven days to leave the city. Investors believe rising inflation will likely result in consumers curtailing their discretionary spending. This would reduce the demand for many of Trip.com Group Limited’s services, such as packaged tours. Such examples of instant lockdowns and recessionary fears are expected to hurt the share price of Trip.com Group Limited, making it an attractive target for short sellers.
Oakmark Fund shared its stance on Trip.com Group Limited in its Q3 2021 investor letter:
“Trip.com Group ADR (China), the largest online travel agency in China, and Reckitt Benckiser Group (U.K.), a large global consumer products company, were both previous holdings in the Fund. With significant declines in share price, the stocks again offered the necessary potential upside to be selected for our portfolio.”
7. Baidu, Inc. (NASDAQ:BIDU)
Float Shorted: 2.07%
Number of Hedge Fund Holders: 47
Baidu, Inc. (NASDAQ:BIDU) is a Chinese internet, autonomous driving, and artificial intelligence company. Baidu, Inc. experienced an increase in the number of shares sold short from 6.97 million in June to 7.17 million as of July 14, and a short ratio of 2.62 days to cover.
The company has become a target for short sellers as it’s facing challenges on multiple fronts. The Cyberspace Administration of China took down over 12,000 social media accounts on Weibo and Baidu, Inc. on August 9. The Chinese regulatory authorities are taking strict actions to ban the buying, selling, and mining of cryptocurrencies. On the other hand, Baidu, Inc. is heading towards a slowdown in growth as advertising revenues are expected to remain shaky due to intense competition and an uncertain macroeconomic environment.
Harding Loevner presented its outlook on Baidu, Inc. in its Q1 2022 investor letter in the following words:
“We sold Baidu (NASDAQ:BIDU) late in the quarter; however, it wasn’t due to company-specific factors as Baidu continues to generate strong cash flows and appears reasonably valued with a strong balance sheet. We have simply grown more concerned about the country risk associated with our Chinese shares, especially shares heavily owned by US investors, given the simmering tensions between the two nations. Our bottom-up fundamental research process continues to identify many high-quality-growth businesses in China that compare favorably with global peers, but we have decided to trim our overweight as we reassess the implications of our holdings there for overall, portfolio-level risk.”
6. XPeng Inc. (NYSE:XPEV)
Float Shorted: 2.31%
Number of Hedge Fund Holders: 26
XPeng Inc. (NYSE:XPEV) is a Guangzhou-based EV maker that was held by 26 hedge funds as of Q1 2022.
During the first half of this year, the Chinese midsize high-tier segment, which is XPeng Inc.’s main target market, had the slowest growth, partly due to the company’s penetration ratio in this segment being high at 32%. At the same time, XPeng Inc. failed to boost its sales by branching out its dealership network into low-tier cities.
On August 3, Erica Chen at Macquarie downgraded XPeng Inc. stock from an ‘Outperform’ to a ‘Neutral’ rating and reduced the target price by 35% to $25. The analyst cited the slowdown in demand for the midsize vehicle as the reason for the downgrade. Chen reduced the FY22, FY23, and FY24 sales volume and revenue forecasts to incorporate the impact of a slowdown in the growth of battery-powered electric vehicles (BEV). As of July 14, over 19.55 million shares of XPeng Inc. were sold short, with a short ratio of 1.92.
Besides XPeng Inc., investors are also shorting other notable Chinese stocks like NIO Inc., KE Holdings Inc., and TAL Education Group.
5. KE Holdings Inc. (NYSE:BEKE)
Float Shorted: 2.43%
Number of Hedge Fund Holders: 34
KE Holdings Inc. is a Chinese provider of online and offline housing brokerage services. Beike and Lianja are two of the biggest and most popular online real estate transaction platforms in KE Holdings’ portfolio.
KE Holdings Inc. was backed by Softbank Group Corp, but the Japanese diversified financial services firm exited its position in the company during Q2 2022, a period during which KE Holdings Inc. reported a record net loss of $23.4 billion.
In December 2021, Muddy Waters revealed its short position in KE Holdings Inc. and accused the company of overvaluing its assets and the gross transaction value of its home sales. While KE Holdings Inc. refuted the claims, concerns related to the company’s valuation haven’t subsided. KE Holdings Inc. is said to be overvalued, trading at 35.4x its 2022 earnings.
Furthermore, KE Holdings Inc. has predicted that the residential real estate market will decline over the next 15 years due to the aging population. The Chinese population dependency support ratio peaked in 2010, and there have been instances in Japan and Korea where housing markets declined once the population dependency support ratio peaked. Due to these factors, investors are bearish on the stock’s long-term outlook.
In its Q3 2021 investor letter, Tao Value discussed its outlook on KE Holdings Inc.. Here’s what the firm said:
“As witnessed in the past quarter, the government intervention in Chinese private sector is elevated to an unprecedented level. Given this background, I thoroughly reviewed all our Chinese holdings and made a few changes. We exited KE holdings (ticker: BEKE), for high potential regulatory risk and the passing of the visionary founder & CEO Zuo Hui (who was a core tenet of our original thesis).”
4. NIO Inc. (NYSE:NIO)
Float Shorted: 3.59%
Number of Hedge Fund Holders: 26
NIO Inc. is a Shanghai-based automobile manufacturer with a heavy emphasis on electric vehicles. Overall, 26 funds held a stake in NIO Inc. as of Q1 2022.
NIO Inc. observed a 22.4% month-over-month decline in production despite the Chinese economy opening up after the COVID-19 lockdowns. The decline in production on a sequential basis was due to supply chain-related problems for the company’s ET7. The delivery delay for the ET7 could be crucial for NIO Inc., as the EV maker has not been able to ramp up its production because of this variant. The company anticipates solving this problem during the third quarter. However, investors are seeing this as an opportunity to short NIO Inc., as a further decline in production could cause the stock price to plummet.
Here’s what Horos Asset Management said about NIO Inc. in its Q1 2022 investor letter:
“At the beginning of April the CSRC (China Securities Regulatory Commission) announced possible changes in its regulation that would allow this inspection by foreign auditors, provided that the companies previously communicate to this body the state secrets that would be exposed, as well as the sensitive information that they might have to hand over, and the subsequent audit is carried out in a framework of collaboration with the CSRC. In short, a move in the direction desired by the SEC, although still far from the optimal result, that is, unrestricted access to information. While these negotiations between the two regulatory bodies are progressing, Chinese companies have to decide how best to preserve their interests. Other entities, such as the electric vehicle manufacturer Nio, have just started trading on this stock market.”
3. GDS Holdings Limited (NASDAQ:GDS)
Float Shorted: 5.45%
Number of Hedge Fund Holders: 26
GDS Holdings Limited (NASDAQ:GDS) is a developer and operator of data centers across China. As of July 14, 10.38 million shares of GDS Holdings Limited were held short. Based on the average daily trading volume of 1.32 million shares, it would take 8.22 days to cover all the short positions.
On July 29, Joel Ying at Nomura downgraded GDS Holdings Limited stock from a ‘Buy’ to a ‘Neutral’ rating. The company is expected to report its Q2 2022 results on August 23. Analysts anticipate GDS Holdings Limited to report an adjusted loss per share of $0.41, reflecting a year-over-year (YoY) decline of 46.4%. The revenue forecast for the company’s Q2 stands at $341.75 million. In the last six quarters, GDS Holdings Limited has missed EPS estimates on all six occasions and revenue estimates on two occasions.
Investors believe the increased regulation from Chinese authorities in regard to privacy laws and the challenging economic environment is expected to dent the stock price of GDS Holdings Limited in the near future.
Baron Funds echoed these sentiments in its Q4 2021 investor letter. Here’s what the investment management firm said:
“The Fund’s Core Growth investments were negatively impacted by the market rotation to value-oriented businesses. Fundamentals for most of our Core Growth holdings remain strong. We exited two positions in this space, which included GDS Holdings Limited. GDS, a Chinese data center, suffered from increased oversight and regulation from the Chinese government. While we still appreciate the long-term prospects for both businesses, we believe the current environment for both is difficult and uncertain.”
2. Baozun Inc. (NASDAQ:BZUN)
Number of Hedge Fund Holders: 12
Float Shorted: 6.39%
Baozun Inc. (NASDAQ:BZUN) is a Shanghai, China-based e-commerce solutions provider. The company is heavily reliant on Taobao, which is an e-commerce marketplace owned by Alibaba Group Holding Limited.
As of July 14, 4.32 million shares of Baozun Inc. were sold short, equivalent to 8.05% of the total shares outstanding. It would take 5.48 days to cover the short positions based on the current average daily trading volume of 789,000 shares.
The e-commerce solutions provider is facing backlash from notable western brands due to the human rights violations reported in Xinjiang. Baozun Inc. is a Better Cotton Initiative (BCI) member firm. BCI had to cease operations in Xinjiang due to labor abuses-related concerns, as Chinese nationalists initiated a campaign against brands that supported or had ties with BCI. The boycott caused a significant dip in Baozun Inc.’s sales because of the company’s gross merchandise value-based pricing model.
Investors believe Baozun Inc. is trading at a premium to its earnings growth. With the loss of sales and its high execution risk, Baozun Inc.’s stock price is expected to decline further.
1. TAL Education Group (NYSE:TAL)
Float Shorted: 7.41%
Number of Hedge Fund Holders: 14
TAL Education Group is a Beijing, China-based provider of after-school education and tutoring for students in primary and secondary schools. TAL Education Group was held by 14 hedge funds at the end of Q1 2022.
On July 29, TAL Education Group reported a decline in revenue of 84% YoY to $224 million. The significant dip in revenue follows the Chinese government’s decision to crackdown on private tutoring. Meanwhile, the bottom line results for TAL Education Group also suffered heavily, falling by 50% YoY. The Chinese government has justified the ban on tutoring by saying that it will reduce the pressure on students who are forced to get additional classes to excel in the highly competitive Chinese education system.
As of July 14, around 48.08 million shares of TAL Education Group were sold short, equivalent to 7.41% of the total float. It would require nearly 5.8 days to cover the short interest in the company based on the average daily trading volume of 8.3 million shares.
TAL Education Group was discussed in the Q3 2021 investor letter of Tao Value. Here’s what the firm said:
“On the other hand, TAL Education (TAL)’s value is largely destroyed by the policy officially released on 7/24/2021, which essentially outlawed for-profit curriculum-related after school tutoring (which is TAL’s main business). It is a hard lesson learned here that government related risk is a substantial one, especially for Chinese businesses.”
You can also take a peek at 10 Best Dividend Stocks to Buy in 2022 and Cathie Wood’s 10 Favorite Stock Picks For The Rest of 2022.
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This article is originally published at Insider Monkey.
