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I am a great admirer of Berkshire Hathaway (NYSE: BRK-B) Vice Chairman Charlie Munger.
I’ve learned a lot from the wit and wisdom of the man whom Warren Buffett called his “alter ego.” And I’ve rarely disagreed with him.
Until recently, that is…
About a month ago, Munger revealed that he had taken a big stake in China’s leading e-commerce company, Alibaba Group Holding Ltd. (NYSE: BABA).
To be clear…
Munger did not invest on behalf of Berkshire Hathaway. Instead, it was on behalf of a far smaller company of which he is chairman, Daily Journal Corp. (Nasdaq: DJCO).
Still, Munger’s investment raised some eyebrows.
Even as China was cracking down on Alibaba and other Chinese tech firms, Munger was buying Alibaba hand over fist.
Surprisingly, Munger even leveraged the Daily Journal’s portfolio to buy more Alibaba stock.
Now, the key to Munger’s past investment success has been to exploit Mr. Market’s mood swings.
And more often than not, this approach has paid off for him.
However, this time, I believe Munger got Alibaba badly wrong.
Like many other hapless foreign investors in China, Munger just got hustled.
A Short Primer on Alibaba
Alibaba may be the most important big tech firm you never heard of.
Founded by English teacher Jack Ma in 1999, Alibaba dominates the domestic Chinese e-commerce market like no other company.
Alibaba is far more than what its nickname “the Amazon of China” implies.
Think of Alibaba as a combination of Amazon (Nasdaq: AMZN), Google parent company Alphabet (Nasdaq: GOOGL), Facebook Inc. – now Meta Platforms (Nasdaq: FB) – and PayPal (Nasdaq: PYPL). It does everything the U.S. tech leaders do… but does it all in China.
Alibaba was listed with great fanfare in 2014 on the New York Stock Exchange.
Its eye-popping valuation of $230 billion made it the largest IPO in history.
By late 2020, Alibaba was on the verge of becoming a trillion-dollar market cap company.
Then, the Chinese government stepped in to nix the IPO of Alibaba banking subsidiary, Ant Financial.
Since then, Alibaba’s stock has plummeted more than 70%, costing its investors more than $600 billion in lost market cap.
That number exceeds the entire current value of giant Meta Platforms.
Charlie Munger: A China Bull
Munger is no newbie to the China market.
Few investors remember that Berkshire Hathaway invested almost $500 million in PetroChina Company Limited ADR (NYSE: PTR) in 2002 and 2003.
Buffett’s well-timed entry and exit turned that stake into $3.5 billion within five years.
But it was Munger who spearheaded Berkshire’s investment in Chinese electric car maker BYD Company (OTC: BYDDF) in 2008.
Berkshire Hathaway’s initial investment of $232 million for 8.2% of the company is today worth $8.7 billion and growing.
These successes in China have blinded Munger to the current realities.
That’s also due in large part to Munger’s admiration of China.
Munger believes that China is seeking to replicate the remarkable success of Singapore – now one of the wealthiest places on Earth.
Led by former Prime Minister Lee Kuan Yew, Singapore prospered under a one-party system’s efficient and paternalistic rule.
That said, this success has come at the cost of suppressing individual liberties.
Still, Munger admonished that the West should not rush to apply our ethical standards to China.
When asked about China’s politics at the Daily Journal investor meeting, Munger was almost flippant.
We wish that China and the United States got along better… Think about how massively stupid both China and the United States have been to allow the existing tensions to rise… They should like us, and we should like them.
Why Munger Is Wrong About Alibaba
Munger’s investment philosophy has one chink in its armor.
He is the fish that doesn’t realize it’s swimming in water.
That “water” is the environment necessary for the success of any investment: a stable society operating with established norms and governed by the rule of law.
Despite its ups and downs, the U.S. has been just this kind of a place.
And the U.S. is pretty much where Munger has made most of his investments.
China faces an extreme political risk.
That’s the risk of investing in a country that is not governed by the rule of law.
- The rights of investors are not respected.
- Regulations can change overnight at the whim of the Chinese Communist Party (CCP).
- The country is governed by a political strongman, ready to crush any perceived rivals.
Ironically, no other company illustrates this more than Alibaba.
By 2020, the Chinese government felt that Alibaba’s influence had become too great.
Alibaba founder Jack Ma had become too popular a figure in China. He also developed a bad habit of speaking out against Chinese regulators. The CCP could not tolerate that.
Ma disappeared from the public eye for three months after a controversial speech in October 2020.
When he reappeared, he had resigned from Alibaba and adopted an outright submissive attitude toward the CCP.
This strategy is nothing new for China. It’s used the same tactic on many others who weren’t toeing the CCP’s line.
Nor has the pressure on Alibaba abated.
The CCP recently fined Alibaba $2.8 billion for violating anti-monopoly rules in e-commerce.
Alibaba also recently announced the launch of a $15.5 billion “social equity” fund.
To tackle “societal challenges” such as rural area development and the growth of small and medium-sized businesses.
With no expected return to Alibaba shareholders, this is little more than a hidden tax imposed by the CCP.
So why did Munger invest in Alibaba?
On its face, Alibaba represents excellent value.
Amazon trades at a P/E of 47. Alibaba trades at a P/E of 15.
And it is “on sale” – something Munger finds hard to resist.
But Alibaba is facing enormous – and unpredictable – headwinds.
Last week, Alibaba reported its slowest quarterly revenue growth since 2014. Revenue in the fourth quarter grew a mere 10% year over year.
The growth rate for the same quarter in 2020 was 37%.
Couple that with the unpredictability of the CCP, and Alibaba’s future is uncertain at best.
Yes, you can make money in Alibaba if you are a short-term trader looking for a short-term bounce in the stock.
But I believe Munger’s long-term investment in Alibaba is a mistake.
Put another way, Charlie Munger just got hustled.
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