At a $122.25 price target, PDD analysts need to catch up

Key Points

• PDD stock is blowing past analyst targets in a massive 18.1% rally, and markets see plenty of upside. 
• Backed by macro tailwinds in China's consumer, financials in the company expanded beyond expectations 
• Competitors don't stand a chance; this is the industry's favorite child.

Shares of PDD Holdings NASDAQ: PDD rallied by 18.1% during Tuesday's trading session. What is the reason? A higher-than-expected quarterly earnings report. Now, you could have seen this coming from a mile away, but what good is it to reminisce on the past when you can come up with a better way to move forward?

Some bulls have formed around Chinese equities, namely those that depend on the health of the nation's consumers to aid in the government's plan to boost lackluster inflation rates. Current measures such as stimulating policy (lowering interest rates and approving bills) are beginning to affect these names positively.

A massive underperformance in the iShares MSCI China ETF NASDAQ: MCHI against the S&P 500, which amounts to as much as 31.5% on a year-to-date basis, has sparked investors like Ray Dalio to dump a few - well, more than a few - million into the ETF. Here's what you can do about it for your portfolio.

Tailwinds surplus 

Apart from the Chinese government playing a direct role in the much-needed stimulus its people need, other forces are at play, helping PDD stock create an even higher ceiling. But first, a few of the more obvious factors to aid in digestion.

After issuing around $137 billion in bonds, the government is looking to flood China's economy with cash so that consumers feel all the more confident in spending and boosting corporate profits along with the country's GDP. 

Well, these measures are working so far, as the latest report for retail sales showcased a 7.6% bump in October compared to a year prior. Where do you think all these dollars (actually, yuan) ended up? That's right, in the pockets of companies like PDD.

Some traders saw this move coming, as evidenced by a similar 17.1% rise in shares of JD.com NASDAQ: JD a couple of weeks before PDD's announcement. That company reported a revenue increase of 1.7%, nothing to write home about, so why would this excite PDD watchers?

Consumer discretionary stocks, especially those that rely on Internet commerce as a platform, all share one fundamental law of the land: This is a zero-sum game. So, while JD.com only called for a 1.7% increase in revenue, that is barely enough to explain the 7.6% rise on a national level.

That only leaves one other worthy candidate to make up for the rest of the expansion - finish the sentence, please - which is PDD. When you peek at the company's financials, you will see just how accurate this assumption turned out to be.

Underrated upside

PDD's quarter reported a massive 94.0% jump in sales over the year; bingo! This is where the chunk of national retail sales growth ended up. With operating profits jumping by as much as 60.0%, markets could do nothing but watch the stock skyrocket in awe.

Earnings per share jumped by 44.0%, justifying the nearly 20.0% rally in the stock. However, analysts have a lot of catching up to do. EPS is projected to grow another 19.9% for the next twelve months, but wait a minute, China's consumer comeback is only getting started.

A 44.0% on the beginning of a new trend seems to make that 19.9% prediction obsolete, and the same would go for the consensus price target of $122.2 a share, as the stock proved to blow right past it.

On the other hand, markets seem very well aware of this stock's remaining upside, as you can see from the following statistics.

Imagine that you have a medical emergency and are given a list of doctors you may call; you would presumably go with the most expensive one to ensure that the service and advice were top-notch, wouldn't you? Traders look at stocks and their future earnings the same way.

When there is an emergency to be positioned in the best and highest quality of earnings, traders will bid up the valuations of certain stocks and be willing to overpay relative to the peer group. 

In the case of PDD, its forward P/E ratio of 24.0x represents an 182.1% premium over JD.com's 8.2x multiple. But that's just China; how about a similar-sized American competitor like eBay NASDAQ: EBAY? That stock trades at a forward P/E of 9.1x; PDD is still at a 164.4% premium to that one.

Far from a local phenomenon, PDD stock is the one to hold onto if your view is bullish on the consumer discretionary sector; if it isn't, then you are fighting head-on against the momentum in the Consumer Discretionary Select Sector SPDR Fund NYSEARCA: XLY.