Chinese Internet Stocks: Bad News Ignored Signals Sellers’ Exhaustion

We have a flurry of seemingly negative news last week. Ironically, in a complete reversal of the panic experienced in July-August, the Chinese internet sector continued to rally. Are sellers exhausted? Has everyone with the impetus to sell their Chinese holdings done so?

The bear may pounce again when it is well rested. For now, let’s review the plethora of bad news in the past week in chronological order and I offer my take as to why market players brushed each one of them off.
China slashed gaming time for children to just three hours per week

Minors (defined as those under 18 years old according to China’s laws) will be forbidden to play video games for more than three hours a week. Specifically, they are limited to playing for an hour a day – 8 p.m. to 9 p.m. – on only Fridays, Saturdays, and Sundays. Even on public holidays, they are also restricted to playing for one hour, at the same time.

Gaming titan NetEase (NTES) fell more than 6 percent in pre-market trading on Monday. Video streaming platform operator Bilibili (BILI) which has a side business as a mobile game publisher saw its shares declining 3 percent before the market opened. Global gaming stocks were not spared too. Shares in Ubisoft (OTCPK:UBSFY)(OTCPK:UBSFF) and Embracer Group (OTCPK:THQQF) each dropped 2 percent.

Yet, the mentioned gaming stocks and the world’s most valuable game company, Tencent Holdings (OTCPK:TCEHY)(OTCPK:TCTZF), ended the week with gains. I wrote previously how Chinese internet stocks suffered from multiple punches on essentially the same development. Perhaps investors have read that article and realized the folly.

Recall that a state media outlet had in August decried online games as “spiritual opium” and singled out Tencent’s “Honor of Kings” in an op-ed that called for more curbs on the gaming industry. Shareholders feared the article would herald a regulatory crackdown and sent Tencent stock plummeting. Rival NetEase endured a heavier beating though.

The sellers were proven right but having already reacted based on the media commentary, market players appeared unwilling to dramatize upon the fact. After all, company executives had attempted to put the ‘damage’ to proportion.

James Mitchell, Chief Strategy Officer of Tencent, revealed during the earnings conference call that in the second quarter, under 16-year olds accounted for only 2.6 percent of the company’s China game grossing receipts, and under 12-year olds accounted for a mere 0.3 percent. Charles Yang, Chief Financial Officer of NetEase, offered an even greater reassurance for his company, also during the second-quarter earnings call – under-18s accounted for less than 1 percent of NetEase’s total games gross billing.

That is to say, even if the Chinese government had barred the children from playing altogether, the steep slumps in the share prices on the news wouldn’t have commensurated with the financial fallout.

On a side note, although Yang did not name the company, it seemed he alluded to Tencent when he said “different companies might have disclosed different data, but according to [Chinese] law,” minors are defined as those below the age of 18. With Tencent only revealing data for under-16s, Yang had ostensibly thrown down the gauntlet to its rivals to follow his suit and unveil the financial impact for under-18s instead.

Nevertheless, shareholders weren’t in the mood to nitpick and rather occupied themselves with scooping up gaming shares on the cheap. Although the shares fell initially, TCEHY and NTES eventually closed the week 7.0 percent and 0.2 percent higher.
Greater scrutiny and penalties on e-commerce platforms

Also on Monday, the Chinese market watchdog announced its intention to impose harsh penalties on online marketplaces like Alibaba Group’s (BABA) Taobao, JD.com (JD), and Pinduoduo (PDD) if they fail to confront violations of intellectual property rights [IPRs] on their platforms. According to the documents (contents in Chinese) published by the State Administration for Market Regulation (SAMR), offenders could be ordered to compensate IPR holders for the damages suffered and even have their operating licenses revoked.

While the measures sound frightening, the e-commerce stocks were seemingly oblivious and continued their upward march. Perhaps shareholders were cognizant of the fact that the policy notice was categorized as “solicitation of opinion” and the actual implementation may differ in severity. Nevertheless, with the deadline for the submission of opinions set as October 14, 2021, we might expect the news coverage of the final form to spark a round of sentiment hit.
Xi Jinping called for more guidance and supervision of internet companies

We are not done with Monday. Chinese President Xi Jinping praised the antitrust campaign against the internet sector as “beginning to bear fruit.” This can be construed as his support for a continuation of the crackdown and could have triggered another round of indiscriminate selling.

That did not happen, however, as investors became more discerning about what exactly had been said beyond the headlines which might be sensationalized for clicks. Countering claims of Beijing being capricious, Xi called on the Communist Party of China [CPC] to step up on the guidance and supervision of internet companies with “clear rules, effective regulations, and greater policy transparency.” This must be music to the ears of investors who have clamored for more clarity in the policies.

Meanwhile, even though Meituan (MEIT)(OTCPK:MPNGF)(OTCPK:MPNGY) warned that it may have to “make changes to its business practices and may be subject to a significant amount of fines,” its share price continued to march upwards.
Chinese ride-hailing firms ordered to fix misconduct by year-end

Hot on the heels of a medical pricing reform plan announced on Wednesday as part of a campaign to make healthcare in China more affordable, Chinese authorities summoned executives from 11 companies, including DiDi (DIDI), Meituan, and Alibaba’s ride-sharing and navigation unit Amap, for a reprimand. The ride-hailing platform operators were criticized for their disruptive competitive practices and violations hurting the interests of drivers and passengers.

The reaction to the share prices of the affected stocks was a yawn. If the news had emerged a few weeks earlier, it could have exacerbated the sell-off in the tech sector. Investors might have reckoned the internet companies have already been sold off on an expected tightening in the regulatory environment and realized it didn’t make sense to punish the stocks again for essentially the same issue.

Furthermore, the operators were given around four months to carry out self-inspections, rectify the problems flagged, and submit compliance plans. This was unlike in July when the regulators demanded the app stores disable the downloads of offending apps and ordered the suspension of new user registrations with immediate effect. There were also no financial penalties meted out.
DiDi and JD established worker unions in a watershed moment for China’s tech sector

Also on Wednesday, reports streamed in that Chinese ride-hailing giant DiDi Global Inc and JD separately formed unions for their staff. The moves were hailed as groundbreaking as company-wide organized labor is extremely rare in the Chinese tech sector.

Given the tendency for unions to extract higher compensation and benefits from the employers that could hurt the bottom line, it’s surprising market players looked the other way and their stocks were spared of panic selling. Again, as I postulated in the previous section if the news surfaced in August, the market reaction could have been quite negative instead.

Shareholders probably took it positively that the companies would be regarded in a better light in front of the regulators with their proactive initiatives. Investors might have also been comforted that China’s unions are rarely aggressive and instead focused “on matters such as alleviating employee grievances and promoting work safety,” according to Aidan Chau, a researcher at the Hong Kong-based China Labour Bulletin.
Alibaba pledges US$15.5 billion in support of China’s ‘Common Prosperity’ push

To round up the week of ‘detrimental’ news on Chinese internet companies, we have Alibaba Group announcing its RMB100 billion (US$15.5 billion) commitment to finance 10 initiatives promoting ‘common prosperity’ in China, supporting a nationwide push towards a fairer society. Critics might construe this as a ‘forced donation’ and raise concerns about the impact on Alibaba’s future earnings growth.

However, judging by the ho-hum movement of BABA stock, market players were apparently in disagreement with the negative take. This came even as an influential liberal Chinese economist cautioned against “excessive government intervention and the erosion of the market economy” in China. We could guess why this was so by looking deeper into the pledge.

Of the big sum, only RMB20 billion was allocated for a dedicated fund designed to reduce income inequality in Alibaba’s home province of Zhejiang. The remaining amount would cater for initiatives such as technology innovation and the creation of ‘high-quality jobs’ that could boost the company’s prospects.