NIO Stock: Xi Jinping’s China is not investable (NYSE:NIO)

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Until recently, NIO Inc. (New York Stock Exchange:NIO) has been the only stock of the China-based company in my portfolio. Unlike Alibaba Group Holding Limited (BABA), the car company has not been as big as its technology. counterpart to pose any threat to Beijing. That’s why when China-based tech companies faced a government crackdown that wiped out billions of dollars in shareholder value over the past two years, NIO was able to thrive and expand its position in China’s growing vehicle market. electric (“EV”). without worrying too much about politics. However, it seems that period is coming to an end.

Xi Jinping’s recent re-election to an unprecedented third term as CCP General Secretary during the 20th National Congress last week gives me reason to believe that even stocks in non-China-based companies are no longer worth owning. greatly affected by the latest repressive measures. In addition to economic policies, which hurt NIO’s finances earlier this year and are likely to continue to be implemented in the future, there is also a risk that the company may not be able to overcome upcoming political and geopolitical challenges simply due to the fact that that would be out of your control. So, even though NIO’s shares have depreciated significantly recently along with shares of other China-based companies, I don’t think the company will be trading at a bargain price, and now might be a good time to double down and increase the portfolio’s exposure to as there are reasons to believe that Xi Jinping’s China has become uninvestable.

Welcome to the New Reality

One of the benefits of owning NIO is exposure to the growing Chinese electric vehicle market. With Beijing aiming for China to become a carbon-neutral nation by 2060, one of the ways to achieve that goal is to speed up the production and deployment of electric vehicles, which emit no greenhouse gases compared to electric vehicles. traditional ICEs.

Although NIO has certain disadvantages, such as the lack of its own manufacturing facilities, as it outsources production to third parties, which is something that I have covered in my articles about the company in the past, the company managed to become one of the brands of most popular electric vehicles in China. Until recently, NIO was on its way to further expand its presence in China and abroad, and that was one of my main reasons for buying its stock. However, there is now a risk that NIO’s growth will not be as aggressive as previously forecast, making it important to reassess the position in the company.

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There are several reasons to be cautious going forward. First of all, during the opening of the 20th National Congress on October 16, Xi Jinping delivered a speech praising China’s response to the Covid-19 pandemic and doubling down on the zero-Covid policy, which has negatively affected NIO financials and growth prospects earlier this year. In April, NIO deliveries fell by almost half from the previous quarter due to Covid-19-related lockdowns, while in May, the pick-up in deliveries due to the reopening of major Chinese cities was yet to come. below the initial delivery targets. Bearing in mind that Beijing’s policy on lockdowns will not change and there are already reports of the new lockdowns going on right now, there is a constant risk that the city in which NIO’s production partner JAC operates could go into quarantine, once again creating a scenario where NIO is not compliant with its delivery targets and disappoints its shareholders.

At the same time, despite Beijing unveiling various fiscal stimulus packages, it appears that the Chinese economy is not growing as aggressively as expected, mainly due to the fact that the Covid-19 lockdowns continue to negatively affect growth rates. . While in the third quarter, China states that its GDP has raised at 3.9% year-on-year, there are signs that its economy is weakening nonetheless as house prices have fallen for the 13th consecutive month, retail sales have slowed and the budget deficit it is already approaching a record $1 trillion.

With retail sales slowing and the housing market falling, questions are being raised about how long China’s electric vehicle market can continue to grow at an aggressive rate in the current environment. Although the latest data shows With EV penetration in China increasing at an impressive rate, companies like Tesla (TSLA) have already started to lower prices there. Elon Musk even believes that China is in a kind of recession and as a result, your company would probably not be able to meet the delivery target this year. Elon might be right in the end, considering that China’s consumer confidence index is currently at record lows and, as a result, there is a risk that other automakers will also face additional economic challenges in the coming months. This could also negatively affect NIO’s ability to meet its own annual delivery target.

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China Consumer Confidence Index

China Consumer Confidence Index (Statista)

What’s next for NIO?

One of the biggest red flags of the last National Congress is the fact that in addition to Xi Jinping’s re-election for an unprecedented third term, the reorganization of the Politburo Standing Committee that fired pro-market reformers and replaced them with party loyalists also gives further cause for concern. I have already pointed out in my last article on Alibaba that Xi Jinping’s constant reiteration of Marxism coupled with the desire to achieve common prosperity, including wealth redistribution, is already about to cost Alibaba ~22% of its liquidity, indicates that political interests will prevail over economic reasoning in the future.

As a result of this, it is safe to assume that the cost of exposing your portfolio to the Chinese electric vehicle market through a long position in NIO is now significantly higher than before due to the political aspect. Considering that the risks of state intervention are high, I will not be surprised if at some point Beijing begins to tighten its control over the auto industry in the same way that it has over the tech industry through various economic and political means.

In addition to the internal challenges NIO faces, there are also geopolitical risks, which for some could outweigh all the potential growth opportunities the company offers. First, although Beijing decided to allow US inspectors to audit the books of China-based companies, there is still no guarantee that the inspection will be successful. There is always the possibility that the Chinese side will not live up to its end of the bargain, as it had already done so in the past when it decided not to cooperate after signature a Memorandum of Understanding in 2013.

Second, even if the latest audit were successful, NIO would continue to offer its shares on public exchanges only in the form of a variable interest entity (VIE), which does not give investors voting rights or equity interests in the company. based in China. itself, as ownership is granted only to the fictitious subsidiary in the Cayman Islands. At the same time, it gives Chinese regulators the ability, at their discretion, to ban their companies from using the VIE structure in the event of a new confrontation with the West, since VIEs themselves are neither neither recognized nor denied by Chinese regulators.

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Third, while NIO operates primarily in China, its business relies on imports of US-designed chips used in its AI projects. NIO has been actively wearing Nvidia’s A100 (NVDA) chips to create data centers that power the software used in its vehicles. After the Biden administration’s decision to ban the export of A100 chips to China, there is a possibility that NIO may not be able to fully realize its AI ambitions and fully automate its vehicle fleet, which could ultimately make its offering of automobiles less attractive. to customers

Last but not least, the current sentiment regarding shares of China-based companies is extremely bearish. After the end of the National Congress on Sunday, shares of China-based companies continued to depreciate and trade significantly lower compared to the rest of the market, as can be seen in the chart below showing YTD performance. of NIO shares. compared to the YTD performance of the S&P 500 Index.

NIO Price Performance vs. S&P 500

NIO Price Performance vs. S&P 500 (Seeking Alpha)

With all of that in mind, it becomes obvious that NIO is now facing multiple internal and external challenges that it is unlikely to overcome due to being out of its control. As a result, Seeking Alpha’s Quant rating system gives the company’s stock a HOLD rating, but leans close to sell as the business is losing momentum and at the same time losses are piling up.

OIL Quantitative Score

OIL quantitative classification (alpha search)

The bottom line

Recent developments in China suggest that no stock of any China-based company is safe from the political, economic and geopolitical challenges that the entire country is facing or about to face. Although NIO offers decent exposure to the Chinese EV market for investors, I believe that as the risks of confrontation between China and the collective West increase each year, while the zero covid policy will likely continue to wreak havoc on the economy China. , the downsides of owning China-based companies outweigh any potential growth opportunities. Therefore, I recently closed my long NIO position and have no plans to expose the portfolio to any other Chinese company stocks in the foreseeable future.

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