China's Tech Titans Outpace U.S. Rivals -- WSJ

Shares of Tencent and Alibaba have surged and analysts say they have more room to run

HONG KONG -- If you thought the FANG trade in the U.S. had teeth, it pales in comparison to what is happening in Asia.

Facebook Inc., Amazon.com Inc., Netflix Inc. and Google parent Alphabet Inc., which make up the FANG acronym, have each gained more than 20% so far this year, propelled by strong earnings growth and overall investor enthusiasm for technology stocks. But China's tech giants, Tencent Holdings Ltd. and Alibaba Group Holding Ltd. are motoring at an even faster pace. They have each surged more than 40% so far this year and hover around record highs.

Still, analysts and investors say these stocks have more room to rally. The companies are growing rapidly, their business models are diversified beyond just pure tech plays and their share prices are cheaper than the FANG group.

Tencent and Alibaba, which together make up one-fourth of the MSCI China Index by market capitalization, have helped push the index 24% higher so far this year, far outpacing U.S. benchmarks. The MSCI China Index, which includes mostly Chinese companies listed in Hong Kong and the U.S., is a vehicle for stock investors to gain exposure to China despite capital controls that limit direct foreign investment in domestic markets.

For now, analysts are only getting more optimistic about Tencent's and Alibaba's futures, thanks to strong earnings and revenue growth. More than 90% of analysts who cover both companies say they are a buy; neither company has a sell rating, according to FactSet. Based on 12-month price targets, these analysts forecast double-digit gains for both companies over the ensuing year.

"Fundamentals for these large-cap internet stocks have been pretty resilient," said John Choi, head of Hong Kong and China Internet research at Daiwa Capital Markets. "The overall momentum is still very strong and I think there is more to come."

Hong Kong-listed Tencent is the owner of China's largest social network, WeChat, and the world's largest videogame publisher by revenue. The company has a market capitalization of around $330 billion, or roughly the size of Exxon Mobil Corp. It has been investing and forming partnerships outside of China, including a 5% stake in Elon Musk's Tesla Inc. Tencent logged $171 billion in revenue last year. Analysts expect that to nearly double within two years, according to FactSet.

Caroline Yu Maurer, the Hong Kong-based head of Greater China equities at BNP Paribas Asset Management, which has a stake in both companies, said Tencent is benefiting from a growing audience and increasingly sticky user base. WeChat had 938 million monthly active users in the first quarter, up 23% from a year earlier.

"If Tencent can show more signs of monetizing WeChat, it would only give investors even more confidence," Ms. Maurer said. "But for now they're not desperate to find a new revenue source."

Alibaba, which is listed on the New York Stock Exchange, is the e-commerce giant that runs popular online-shopping websites Taobao and Tmall. It has also surged to record highs, thanks to a string of strong quarterly results. Alibaba's fiscal fourth-quarter revenue, reported last month, climbed 60% from a year earlier, a sign of strength for China's consumer economy. After shares rose following its initial public offering in New York in late 2014, the stock struggled for a few years before jumping in 2017.

Even following these big rallies, Tencent's and Alibaba's valuations are rich but not exorbitant. Tencent fetches 35 times projected earnings over the next 12 months, below a recent high in 2014. Alibaba trades at a more reasonable 27 times forward earnings, which is roughly around its average in its three years on the public markets. By comparison, the four FANG stocks in the U.S. trade at an average multiple of about 90 times projected earnings. Amazon and Netflix, historically richly valued stocks, sport triple-digit multiples.

"When companies like Tencent and Alibaba have earnings growth at 40% or 50% even though they are already so big, you can justify a higher [valuation] multiple," Ms. Maurer said.

Piling into tech has been beneficial for investors so far. Active U.S. fund managers collectively are outperforming their benchmarks for the first time in years, according to Goldman Sachs, thanks in part to their large positions in tech. But there are risks that ring true around the world. A fund-manager survey last month from Bank of America Merrill Lynch found the tech-heavy Nasdaq Composite was "the most crowded trade."

"Investors are wondering what they should do, whether they should lock in profits or invest in other areas," said Mr. Choi of Daiwa Capital Markets. "But there aren't many other attractive alternatives."

Write to Steven Russolillo at steven.russolillo@wsj.com

(END) Dow Jones Newswires

June 08, 2017 02:48 ET (06:48 GMT)