China stocks are down big, but some brave investors are taking a shot at buying the dip

Published Wed, Aug 18 20218:53 AM EDTUpdated Wed, Aug 18 20219:28 AM EDT

Patti Domm @in/patti-domm-9224884/@pattidomm

Many global stock investors have tried to weather Beijing's regulatory crackdown, but the investing environment is tough and risky. One major investor said he is holding on but has lost some conviction. Major Chinese stocks and ETFs that trade in the U.S. plummeted in July when China's efforts to rein in internet and other companies went into high gear. The market then tried to recover, but the stocks and ETFs are back to late July levels, which are 52-week lows for some. Dan Niles, founder of the Satori Fund, said he bought a basket of 50 internet stocks as China's market sold off last month, and he still holds them. But it hasn't been easy. He says he's "catching the falling knife and the knife has been cutting off fingers." "The good news is I've been shorting a basket of U.S. stocks against it, and they've been getting hit very hard," he said, in an interview. Niles said Chinese officials have sent mixed messages. On July 27, he said, the message was that officials there said the market could stabilize, but on Tuesday, Chinese regulators moved to impose more regulation on internet companies , sparking another sell-off. "They went from 'stocks could stabilize at any moment' and 'people are misjudging what we're saying,'" said Niles. "Now, they're talking about regulatory reform over the next five years and those are two very different statements. I'm not sure you can trust a whole lot coming out of China. It's one of those things where our conviction level today, looking at the data coming out, it's something we're trying to think through and we're getting more picky with the stocks we do own in China." The State Administration for Market Regulation issued draft rules Tuesday that would ban unfair competition among internet companies. In U.S. trading, Alibaba lost 4.9%, Tencent Holdings fell 3.8%, and JD.com lost 3.6%. The KraneShares CSI China Internet ETF lost 3.1% and at $44.84, was just 50 cents above its 52-week low. In July, there was a whirlwind of activity by Chinese regulators aimed at internet and other stocks. Officials also discouraged foreign listings. For example, regulators began an investigation into Didi Global shortly after the ride-sharing company went public in the U.S. The government turned up the heat more broadly in July when it issued new rules on how publicly traded education companies can operate and how they can raise money. State media was also critical of gaming companies like Tencent. China's antitrust regulator also forced Tencent to relinquish its exclusive music licensing rights and slapped the company with a fine. The big online retailer Alibaba had already been under fire and was fined $2.8 billion fine in April as a result of an anti-monopoly probe. Chinese regulators also nixed the IPO of its sister company, Ant Financial, late last year and forced the company to restructure. Food delivery firm Meituan is also under investigation for suspected monopolistic practices. How to invest Niles said his strategy has been to look at industries where China has already forced change, like gambling and video games. He also likes electric vehicles, since China is the number one EV consumer in the world, and it hopes to lead in that sector. The sector is also a large employer. He notes that only about 70% of China's population is online and 40 million to 50 million people are added every year. China's growth is better, too, with its GDP growing two to three times faster than the U.S. over the past several decades. In a report, Niles had noted that the ETF was down more than 50% from its peak in February and the Nasdaq was up 11% in that period. "While there seems to be an opportunity for this performance differential to close somewhat, we are losing patience with the confusing political statements coming out of China that are making fundamentals somewhat irrelevant," he wrote. He said regulators have been cracking down on video games since 2018, when they halted approvals for new games for 10 months. In the casino sector, officials have been tightening regulations since 2015 but especially in 2020 when they focused on junkets, he added. "We think the risk reward in China technology names is compelling when paired with shorts in US tech names but as we have seen in the past, it may not matter in the short-term as capital flees China," Niles wrote in the report.

Alibaba Ant Group stands at the World Conference on Artificial Intelligence in Shanghai, China, on July 7, 2021.

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