Will China's Interest Rate Cuts Ignite a Rally for This Stock?

Key Points

• Chinese economic stimulus rounds have made a new addition, this time in the form of interest rate cuts. 
• While most markets regarding investing in China are diverse, Michael Burry and Ray Dalio found opportunities in the region.
• With a strong market share and financials, Alibaba offers a double-digit upside for investors willing to consider it.

The answer is that nobody knows. If anyone had a way of timing a new market rotation or rally, there would be a lot more billionaires around. That being said, investors can follow a relatively simple blueprint to position themselves and wait for the potential moves that certain events tend to cause.

In the case of China’s stock market, many indicators are showing that a rally could be in the cards for those who are willing to go into that market, such as Ray Dalio, by allocating into the iShares MSCI China ETF NASDAQ: MCHI as his own bet on a Chinese economic expansion to bring higher stock prices. As Michael Burry did, investors can also take the individual stock route rather than an ETF.

The same investor who correctly called the 2008 financial crisis had just as much conviction when looking over the potential opportunities in China’s stock market. But, rather than diversifying like Dalio, Burry decided to make Alibaba Group NYSE: BABA as well as JD.com Inc. NASDAQ: JD his two largest positions today, and rarely does this fund manager place so much weight into a single country, let alone a single sector like the technology names.

Why Alibaba Has Become a Top Chinese Pick for Investors

When investors think of E-Commerce, they typically think of Amazon.com Inc. NASDAQ: AMZN in a vacuum. While they might be right in their thinking, as this household name has taken the throne as one of the most entrenched operators in the space and one of the largest companies in the world, there’s more to the story.

On a gross merchandise value (GMV) basis, Alibaba sells more than its American counterpart, reaching $1.2 trillion, while Amazon sells less than half at $575 billion. The difference is in revenues, as Amazon generates more revenue from this merchandise than Alibaba, which could be undercutting strategies to take on market share.

In other segments, such as the cloud business known as Amazon Web Services (AWS), Alibaba has a bigger reach. It taps into the fastest-growing middle-class populations in the world, who are now going online at a faster rate.

Michael Burry may have spotted, apart from these potential tailwinds, the potential effects that these new stimulus measures may have on the company. Triggering more domestic and international demand will likely have a trickle-down effect (benefit) on Alibaba’s financials.

This could be why analysts at Citigroup still see a price target of $122 a share for Alibaba stock, daring it to rally by 60.4% from where it trades today. More than that, Alibaba stock’s short interest has declined by 1.9% in the past month, opening the way for more bullish capital to enter the stock.

China's Economic Stimulus and Interest Rate Cuts: What's Next for Investors?

Because the iShares China ETF has some of China's blue-chip stocks among its top holdings, investors should consider what this move may mean for those with a more significant risk appetite. The ETF's top holding is Tencent Holdings OTCMKTS: TCEHY, followed by Alibaba in second place and PDD Holdings Inc. NASDAQ: PDD in third.

Interestingly, the concentration is all in the technology and consumer discretionary spaces, disproving the dominant belief that China is primarily a manufacturing nation. Because these companies are highly dependent on the national – and international–consumer cycle, Dalio chose this as his Chinese bet.

The Chinese government has recently added the newest round of economic stimulus, this time by lowering several interest rate benchmarks that would, in turn, help lower rates on other consumer instruments like credit cards and mortgages.

This is what Dalio may have predicted, and therefore, his bet in the concentrated ETF. But there's more to it. The Chinese ten-year treasury bond now pays investors a 2.24% yield, significantly below the Hang Seng Index's 5.3% dividend yield. Whenever stocks pay a higher yield than bonds, it typically triggers a mass of stock buyers.

Not this time, though, as the obstacle is made up of those fearful of investing in Chinese names. That could be the gap Michael Burry is trying to exploit today.

Over the past 12 months, this is what happened. Up to $5.7 billion in institutional capital was invested into Alibaba stock. Will the rate cuts make the stock rally? Will the inverted stock versus bond yields get it done? No one knows, but Burry and Dalio are willing to find out.