Navigating the recent China Internet Selloff + Special Situation in U.S. Retail Stocks
Certain buying Opportunities have arrived in China and U.S. Retail
Members,
This note will be primarily focused on the recent selloff among China Internet Stocks and then secondarily the downside action in U.S. Retail stocks. I will write concisely as market conditions are moving rapidly as we speak.
For China, We’ll discuss how we may want to watch the sector as it has recently swung from range highs back to range lows.
As mentioned thoughtfully earlier, I do think China represents good opportunity for traders, but at certain levels even Investors may stand to benefit from low (de-risked valuations).
I’ll make the case for the both, the downside risks involved in each scenario, and how upon deeper weakness, this sector can again suddenly bounce 8-10% within a matter of days.
I’ll also be discussing U.S. Retail names that I believe could be on a cusp of a modest recovery. I’ll be taking action in some of those names below.
First things first: Mindset
If you’ve been a long time member in my Community, you will have seen us navigate these violent swing lows and swing highs with what I would say rather thoughtful commentary.
Among some of the mindsets that I’ve developed over time when trading China are the following:
Over the past 12 months, the sector has a Feast or Famine type of psychology to it. It means that certain periods, Investors will feel severely underpaid for the risk they take. At other times, the capital gain returns will feel like it was easy money.
When China is in a downtrend, the pattern that I’ve observed is that investors face about 30-40 days of softness (down markets) and suddenly see 3-5 days of bounces that can range from 10-20%+ in the sector.
In China stocks, 1 day can make all the difference and the profit margin from the entire entry to exit can be greatly impacted by one overnight gap up.
For conditions monitoring, we need to focus on the Hang Seng Composite and the Hang Seng Tech Index what the composites are doing in Hong Kong before making allocation decisions to BABA and the other internet stocks. (This was discussed a while back - but mentioning it here again for clarity)
Let’s talk about the Hang Seng
To identify when bounce conditions can occur in BABA and the other KWEB Stocks, we need to see the Hang Seng stabilize (OR point us to signals that suggest a bounce is coming).
In terms of execution, you can be early (and ride more downside) or you can be late (miss the downside, but partially miss the upside move).
If you are conservative, you may want to wait for confirmation. If you are aggressive, you may decide that being early is better than being late. It’s ultimately risk-tolerance which I can’t give individualized advice here.
Both may feel equally unpleasant and catching the exact bottom is impossible, but I’ve found that if you are an investor, it’s better to actually buy early (and sustain some drawdown). If you’re a trader, you may want to wait for confirmation first.
Map of Hang Seng Tech Index
Fundamental/Technical Commentary: Hang Seng Tech Index has made a series of lower highs since the beginning of 2023. This is in conjunction with uneven economic data in China’s reopening recovery.
The Daily RSI is at 36 and the next support level is 3337 (now 3691).
If the HS Tech Index falls another 10% and RSI gets to 29-31, that period of time may greatly favor risk/reward on the long side for KWEB Components like BABA/TCOM/JD/BIDU (and other constituents)
Map of Hang Seng Composite
Fundamental/Technical Commentary: Similar to the Tech index above, the Hang Sang Composite has also seen lower highs being developed since its initial surge in 2023 due to uneven China recovery as well as U.S. geopolitical tension.
The Hang Seng has an RSI of 33 (near 30 Oversold) and has its next support level at 18253 (which is about 3% away from today’s 18746).
If we get to 18253 on Hang Seng, I expect a short-term bounce reaction there as the RSI will most likely reach 31-32.
If Hang Seng does not recover at 18253 and reaches 16909 which is 11% away, I expect BABA to trade around 70s. At that point, I believe I will re-rate the sector to a Strong Buy.
Hang Seng at 16909 or BABA at 70 (and KWEB Equivalents) is quite a gift to investors & traders in my view. I will be buying quite meaningfully at those levels.
Using BABA as proxy for China Internet Sector
Core Conclusions:
BABA now still has a RSI of 38 and we’re now at a triple test of 79-80 support while SPY/QQQ are elevated despite Debt Ceiling Tension
The name trades near 9X Forward P/E which is about a 50% discount to the S&P 500’s valuation.
I will add BABA here at ~79, more at ~75, and again at 70. I see anything under 10X Forward P/E as opportunity rather than risk. My upside targets are 90, 95, and 100 within a 6-9 month period.
As for the other KWEB Stocks like TCOM and JD, I will be adding more to those levels today as well.
For Investors/Traders in China, make sure to keep China as part of a diversified portfolio. Yes China trades at very attractive valuations, but do not over concentrate into the theme.
On U.S. Retail: Special Situation
We recently had a slew of earnings from U.S. retail that has potentially created opportunities in this sector.
Dollar Tree: I’ve followed this name for a very long time and I have a sense of where market makers like to do action in this name. My latest Dashboard indicated that 125-130 on the name if stress tested could happen. The latest earning sent the name down significantly but it reacted to that range which I’ve been waiting for, and now it trades 137+ (as of this writing) - a nice 7 pt move from 130. I entered a sizable position this morning at 133. A very nice move so far.
Dollar General will trade similarly. I also think DG here is reasonable.
Secondary Watchlist Opportunities
Target: This company is on my secondary watchlist and is now oversold with a Daily RSI of 26. I have a buy order limit at 125, but may decide to buy a small tranche today at 139 for a longer-term hold. The forward P/E on target is quite reasonable, and I’m comfortable with their financial positioning
Nike: Nike is on my secondary watchlist and is now oversold with a Daily RSI of 25. If shares can stabilize can defend 107, I think the name recovers 110 within 2-3 weeks as long as the Dow is stable. I took a small position today.
FIVE: FIVE is another thrift shop company (similar to DLTR) but trades like a momentum growth stock. Daily RSI is 32, so near oversold. If I see a 165 level on this, I’ll be getting in.
ULTA: Ulta has sold sharply from 550 to 480 in the past weeks, but this cosmetic store has increasing gross margins over time, and this name now sees a curling Daily RSI higher from 31 to 36 - a setup I tend to favor. However, today is earnings, so expect a large gap up or down. Investors may want to wait and see on ULTA as it tends to be a momentum name. A successful report could send the name back to 500+ but a weaker than expected report could send ULTA to next support of 438, where I expect the name to react at that level. I have a small position in ULTA.
Other Commentary:
I was previously looking for a target of 230 on NVDA a few months back. In my Dashboard, I was looking for a 260 level where I’d be a first tranche buyer. With the latest quarter earnings, the name has been sent to stratosphere so it appears my conservative buy targets will not be reached in the near future. My 230 and 260 targets for NVDA are unlikely to be reached in the coming months.
The AI Trade has taken off, but as we know, the biggest stock moves come in 60-120 day cycles (at least based on my research). What this means is that we should not have FOMO and that within 3-4 months, the landscape could once again change to be very different from what is its today.
The FAAMG companies are world class at what they do but I’m not going to pay moon-level valuations for their stocks. I stay on the sidelines on FAAMG and continue to look for opportunities with my methodology which focuses on rather de-risked opportunities and higher margin of safety levels.
Will have more commentary later.
Due to rapidly changing market conditions, if I see opportunities that I think are favorable, I may opt to send briefer (more frequent) contextual updates rather than a traditional June report on 6/1. I’ll watch market conditions closely and decide what is best for the folks here.
My macro views haven’t changed from my previous reports. What has changed is the opportunity set due to market pricing, and I hope to share my thoughts in a timely manner.
The Investment Research Dashboard will be updated by Sunday for the following week.
~Larry
Please make sure to read my 4-6 previous letters to understand my fundamental/technical/macro views. Every update builds on top of the others. I write quite frequently now so make sure to read many of my previous editions, which often also include valuable educational content to help you grow as an investor/trader. While I do enjoy sharing my personal journaling of the markets, this is not individual customized financial advice.
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What's your suggestion or framework for max allocation of portfolio to China if one is aggressive? 20%?