One Chinese Stock in a Big Correction
One Fast-Moving Chinese Stock
Earlier this week, I got an email from a subscriber to Cabot China & Emerging Markets Report asking for advice about how to handle Vipshop Holdings (VIPS). I’m including a couple of charts of VIPS, so you can see what I’m talking about.
This first chart is a weekly one that dates back to the middle of 2012. This will give you an idea of why growth investors like VIPS so much. During this period, the stock soared from a split-adjusted 0.5 to a little above 30. While it’s unlikely that many investors bought in when VIPS was at its lows, the stock’s performance in 2013 and 2014 was truly impressive, and it made lots of money for lots of investors.
To understand the current anxiety about VIPS, I’ll use a daily chart that shows how the stock has performed over the last seven months or so. And you can see that the situation has changed significantly.
Since it topped 30 a couple of times in April, VIPS has been in a correction, with a main trend that dropped below 24 earlier this week.
The email asked a couple of questions: First, why was this happening? Second, what should be done with VIPS?
A quick look at a couple of the usual resources for headline information (Yahoo Finance and Google Finance) produced one little story and one big one.
The little story is that Vipshop Holdings reported its quarterly results on May 13. And while the results for the quarter were fine, some investors were a little disappointed with the company’s guidance for the future.
The big story is that a firm called Mithra Forensic Research published a report accusing Vipshop Holdings of irregularities in its financial reporting, including diverting money to related parties to be used in fake sales. Mithra is a short-selling specialist, and it has taken a short position in VIPS, betting that the price of the stock will fall (helped along by its allegations, of course).
The reaction to Mithra’s charges has been mixed, with support and a higher price target from Morgan Stanley and new coverage and a buy rating from Stifel. The stock had already corrected from above 30 to 27 before the allegations were made. So the stock’s correction clearly isn’t all the result of an attack from a short seller.
But there doesn’t have to be a recognizable event to cause a stock to keel over, especially after a big rally.
What I wrote to this subscriber was a list of the factors that might be playing a role in VIPS’s big correction. Here’s a summary.
- Institutional investors dominate the trading volume in all stocks, and a few institutions may have decided that VIPS’ P/E ratio had gotten too high.
- These investors also employ analysts, part of whose job is to calculate a price target for stocks. VIPS may have reached that price target for some of them.
- Institutional investors have portfolio guidelines that prohibit allowing any one stock to exceed a set percentage of the total portfolio’s capital. The big rally in VIPS may have increased its portion of the portfolio beyond those limits.
- Institutional investors may use profit targets that require them to book gains when a stock’s profit reaches a certain level, requiring them to liquidate.
- Once a stock has been rallying for a long time, it can reach a point where everyone who wants to own the stock already owns it. This leaves no new investors to drive the price higher.
But the most important thing I had to say about VIPS was that it really doesn’t make a bit of difference why the stock is correcting. It’s now about 20% off its April highs, and your portfolio is losing money every time it goes lower.
Accordingly, I advised this person to sell at least half of his remaining shares to book profits and reduce his exposure. And in strict risk-control terms, it would be a good idea to sell the entire position.
Will he do that? I don’t know.
I know it’s easy to fall in love with stocks that go up for a long time and deliver big returns. Investors can get a rosy glow just looking at their online trading accounts and seeing those huge unrealized gains.
But I hope he follows my advice. Growth investors can only be successful in the long run if they follow all the rules. And not allowing a stock to take away your profits is one of those rules.
Of course it’s always possible that VIPS will bottom out tomorrow and resume its uptrend. But since the stock is now trading under its price from November 2014, I’d say the odds favor cashing out now. And playing the odds is another one of those rules.
My stock pick this week is a Chinese stock that was featured in the Other Stocks of Interest section of Cabot Growth Investor. (It’s also in the portfolio of Cabot China & Emerging Markets Report, the advisory I write.) Here’s what Cabot Growth Investor had to say about this fast-moving stock.
Cheetah Mobile (CMCM 32)—China’s Internet explosion is still going on, pushed by the millions of Chinese who are using mobile devices to get online. Cheetah Mobile makes software and apps that protect smartphones and other mobile devices, and now has around 400 million monthly active mobile users, producing a growing stream of revenue from a mix of online games and advertisements.
The company has booked 11 straight quarters of triple-digit percentage revenue growth. It also boasts Tencent Holdings, the Chinese messaging giant, as a part owner. Analysts expect the company to increase its revenue from outside China by eight or nine times in the years ahead! CMCM came public in May 2014, and has made a couple of high-volume leaps upward in the past two months.
You could just buy CMCM here and possible do just fine. But I have an even better idea: I recommend a subscription to my advisory, Cabot China & Emerging Markets Report, which will give you advice on lots of other strong stocks.
Plus, you can always ask me how to handle them.