TIP384: Evergrande, Alibaba, and the Collapse w/ David Stein

Episode Summary

Executive Summary: The episode examines whether Chinese equities are cheap enough to offset major risks. David Stein argues China is less expensive than the U.S. on some valuation measures but not a clear bargain, while regulatory unpredictability, debt, slowing demographics, and state control of tech/data create serious uncertainty. He recommends broad, diversified exposure over concentrated stock picking.

Main Topics: China vs. U.S. valuations (Priority: 5/5): The hosts compare Chinese market valuations with the U.S., noting China is cheaper than U.S. equities on some measures but not deeply undervalued historically. Bull case for Chinese equities (Priority: 4/5): Stein explains the bullish argument: China’s economy is large relative to its stock market, and rising productivity could eventually lift corporate profits and market capitalization. Bear case: demographics and slowdown (Priority: 5/5): China faces a shrinking working-age share of the population, which may weigh on long-term growth and housing demand. Debt, property, and Evergrande (Priority: 5/5): The discussion covers elevated private-sector debt, the role of state-controlled banks, Huarong, and the Evergrande property crisis, with emphasis on possible restructuring and contagion risk. Regulatory crackdown and tech sector uncertainty (Priority: 5/5): Alibaba, Ant Group, Tencent, online tutoring, gaming, and private schools are used as examples of China’s willingness to intervene when it sees threats to social cohesion or state control. Data, AI, and the digital yuan (Priority: 4/5): China’s approach to data ownership, AI, and central bank digital currency is framed as a battle over who controls money, transactions, and information. How investors should approach China (Priority: 4/5): Stein recommends diversified ETF exposure, position sizing awareness, and caution about ADR/VIE structures and governance risk.

Key Arguments: China looks cheaper than the U.S., but not cheap enough to ignore structural and regulatory risks. A high debt load is less alarming if capital is used productively for infrastructure, technology, and productivity growth. The biggest risk in China is not just valuation but policy uncertainty: the government can change rules abruptly. Demographics are a headwind because China’s working-age population share is projected to fall over time. The real estate market is critical to China’s economy, so property stress matters even if it is less globally contagious than 2008 U.S. housing. Alibaba and similar U.S.-listed Chinese companies may not offer the legal protections many investors assume because of the VIE structure. China’s push toward a central bank digital currency reflects its desire to control payments, data, and the financial system. For most investors, broad ETFs or diversified emerging-market funds are safer than concentrated bets on individual Chinese companies.

Data Points: MSCI China Index year-to-date return: -12% - Overall China market performance discussed at the start of the episode. China 50 year-to-date return: -17% - The largest Chinese names were hit hardest in the selloff. China A-shares year-to-date return: +2.7% - Local mainland-listed stocks were comparatively resilient. 10-year annualized return, MSCI China: 8% - Longer-term return profile cited as competitive though below the U.S. Shiller P/E, China: 13.6 - Current valuation measure used to argue China is only moderately cheap. Shiller P/E, China average since 2006: 16.3 - Historical baseline for comparing current Chinese valuations. Shiller P/E, U.S.: 37 - Used to show the U.S. is far more expensive than China. Standard deviations above average, U.S. Shiller P/E: 1.8 standard deviations - Illustrates the extremity of U.S. valuation relative to history. Dividend yield, China: 1.7% - Lower than historical average, implying China is not cheap on dividend yield. Dividend yield average since 1995, China: 2.4% - Historical comparator for Chinese stocks. Cash flow yield, China: 7.4% - Compared against a much higher long-term average to show valuations are not extremely cheap. Cash flow yield average, China: 11.5% - Historical benchmark for Chinese stock cash-flow valuation. Earnings yield, China: 6.9% - A yield-based valuation used to compare equities with bond yields. Earnings yield average since 1995, China: 7.5% - Long-term baseline for Chinese equities. 10-year government bond yield, China: 2.9% - Compared with earnings yield to estimate equity risk premium. Earnings yield, U.S.: 3.8% - Used alongside U.S. Treasury yield to compare valuation support. 10-year Treasury yield, U.S.: 1.5% - U.S. bond benchmark in the relative valuation discussion. China private non-financial sector debt to GDP: 222% - Highlighted as very high and a key macro risk. U.S. private non-financial sector debt to GDP: 164% - Used as a comparison point, though also considered high. China private sector debt to GDP in 2010: 120% - Shows rapid rise in leverage over the past decade. China working-age population share now: 68% - Current share of the population aged roughly 15–64. China working-age population share by 2050: 60% - Projected decline indicating demographic headwind. U.S. working-age population change over next 30 years: +5 percentage points - Contrasted with China’s decline. India working-age population change over next 40 years: +15 percentage points - Used to explain why the host is overweight India. Household savings rate, China: 31% - Cited as very high due to limited social safety net. Household savings rate, U.S.: 14% - Shown for comparison, influenced by stimulus at the time. Marriages in China, 2019 vs. 2013: 31% fewer - Used as a proxy for slowing household formation and weaker housing demand. Alibaba ADR price in 2019: $165 per share - Referenced as an earlier valuation point. Alibaba ADR peak in October 2020: $317 per share - Shows how sharply the stock ran up before the crackdown. Alibaba decline since last October: 54% - Measures the impact of regulatory and policy uncertainty. Huarong bad-loan purchase share: 30% to 40% of Chinese bank bad loans - Described as an example of state management of financial stress. Evergrande foreign debt: $21 billion - Important because foreign creditors may be treated differently from domestic stakeholders. Evergrande liabilities: >$300 billion - Indicates the scale of the property developer’s leverage. Evergrande private homes tied to deposits: 1.4 million - Illustrates social and political stakes for refunding homebuyers. Real estate share of economic activity in China: 20% - Emphasizes the sector’s importance to the Chinese economy. Online tutoring ADR reaction: 90% immediate decline - Shows the market impact of regulatory crackdowns on VIE-listed companies. U.S. economy share of global GDP: 22% - Used to compare economic weight with stock market share. U.S. share of global stock market capitalization: 60% - Illustrates how expensive U.S. stocks are relative to the economy. China share of global stock market capitalization: 4% - Used by bulls to argue China is underrepresented in global equities. China share of global GDP: 17% - Supports the bull case that the stock market is smaller than the economy. Japan share of global stock market today: 6% - Historical example showing market-share shifts over time. Per capita GDP, U.S.: $63,000 - Compared with China to show differences in productivity and wealth. Per capita GDP, China: $10,429 - Used to highlight China’s long runway for productivity gains.

Pivotal Quotes: "From a purely valuation standpoint, China is more attractively priced than the U.S. It's just that there's also a lot of other uncertainties with the Chinese market." — David Stein: Summarizing the core investment tradeoff between cheapness and risk. "The biggest risk of investing in China... is that unknown and sort of the whimsy that just things come out of the blue." — David Stein: Describing the unpredictability of Chinese policy and regulation. "They don't own anything, that it doesn't have a contractual right to property and physical property or intellectual property in China." — David Stein: Explaining the VIE/ADR structure and its legal fragility.

Implications: China offers lower valuations and possible long-term growth, but policy risk, weak legal protections, and demographic headwinds make it unsuitable for blind concentration. Diversification and small position sizing are essential.