February is an exciting month for the investing community. There’s been a Federal Open Market Committee meeting, an abundance of economic data has been released, and earnings season kicked into high gear.
But what you might have missed is that February is also Form 13F season. Valentine’s Day (Feb. 14) marked the filing deadline for money managers and wealthy individuals with more than $100 million in assets under management to file a 13F with the Securities and Exchange Commission for the fourth quarter.
A 13F provides a portfolio snapshot (in this instance, as of Dec. 31, 2022) that investors can use to determine what the most successful money managers on Wall Street were buying and selling in the most recent quarter. Even though this snapshot is six or more weeks old, it can still be useful in identifying the stocks and trends piquing the interest of top-tier money managers.
One of the more eye-popping 13Fs filed last week comes courtesy of one of the world’s top short-sellers, Michael Burry.
“The Big Short” investor is known for calling bubbles
Short-sellers are investors who make money when the price of a security declines in value. Since not all stocks are going to be winners, short-selling can be a profitable practice.
Short-selling does, however, come with added risks. While the gains from short-selling are capped at 100% (a stock can’t fall below $0), the losses associated with short-selling are, in theory, infinite. Comparatively, you can only lose what you invest when buying shares of a stock.
Michael Burry, who operates Scion Asset Management, tends to use a variety of derivatives to make his bearish bets. As an example, Burry’s fund held put options on Cathie Wood’s flagship exchange-traded fund, the Ark Innovation ETF, when the second quarter of 2021 came to a close. These contracts equated to a 235,000-share bearish bet on Ark Innovation. Although Burry closed this trade not long thereafter, Wood’s top ETF, which primarily invests in high-beta, high-growth stocks, has plunged.
But the investment Burry is best known for is his bet against subprime mortgages prior to the financial crisis taking shape. Michael Lewis’ book The Big Short: Inside the Doomsday Machine, along with the movie The Big Short, highlight how Burry was able to buy credit-default swaps from major Wall Street investment banks on what he believed to be suspect mortgage bonds. When those bonds began to fail due to subprime borrowers not paying their mortgages, Burry’s fund raked in an enormous profit.
However, the eye-catcher in Scion Asset Management’s latest 13F isn’t what Burry is betting against. Rather, it’s what he’s been buying.
Michael Burry just made a big bet on China
As of the end of 2022, Burry’s fund was holding stakes in just nine stocks, and had purchased shares of only seven stocks during the fourth quarter. But two of those purchases will grab your attention.
At some point during the fourth quarter, Burry bought 50,000 shares of e-commerce stock Alibaba Group (BABA -4.91%) and 75,000 shares of JD.com (JD -11.03%). It means $8.6 million of Scion Asset Management’s $46.5 million investment portfolio (as of Dec. 31) was tied up in fast-growing China stocks.
What would entice an investor, who has a successful track record of spotting bubbles, to buy stakes in two generally fast-growing Chinese e-commerce stocks? My suspicion is it boils down to three factors.
To begin with, China began abandoning its strict zero-COVID policy in early December, following a rash of protests in various parts of the country. These unpredictable lockdowns were compromising supply chains and hurting almost every aspect of China’s once-bustling economy. Although it could take a couple of quarters before China’s residents have built up natural or vaccine-based immunity to COVID-19, this move by the government to reopen China puts the country back on track to support above-average growth. Both Alibaba and JD.com can sustain low-double-digit growth with a fully reopened China.
Secondly, a lot of the regulatory risk associated with owning China stocks appears to be in the rearview mirror. The $2.8 billion fine Alibaba was hit with in 2021 by Chinese regulators is ancient history, and JD.com hasn’t attracted any attention from China’s lawmakers.
To add, brand-name China stocks aren’t likely to be delisted in the U.S., despite previous warnings from U.S. regulators that delisting remained possible in 2024 if accounting visibility wasn’t improved. In December, China granted U.S. regulators access to audits of Chinese companies, which renders U.S. regulators’ delisting threats moot at this point.
The third reason Burry is betting big on China stocks likely has to do with Alibaba and JD.com being relatively inexpensive, compared to the valuation multiples of U.S. stocks. China stocks nosedived during the end of October and in early November, which allowed opportunistic investors to scoop up shares of Alibaba and JD for approximately 9 times and 11 times Wall Street’s consensus 2023 profit forecast for each respective company.
Although JD.com is the pricier of the two on a forward-earnings basis, it’s arguably the Chinese e-commerce stock that offers more upside. Whereas Alibaba relies heavily on third-party marketplaces, JD’s platform is predominantly based on direct-to-consumer sales. This means it’s overseeing the inventory and logistics behind consumer purchasing activity, which gives it more ability to control its expenses and operating margin. This difference in operating model should allow JD to grow its sales and profits sustainably faster than Alibaba.
It’ll be interesting to see if one of Wall Street’s more bearish investors hangs on to his China stocks as they motor higher.