(Yicai Global) Oct. 23 -- Driven by the expanding global economy and stabilizing economic growth in China, share prices of China's triumvirate of technology titans -- Baidu Inc. [NASDAQ:BIDU], Alibaba Group Holding Ltd. [NYSE:BABA] and Tencent Holdings Ltd. [HK:0700], collectively known as 'BAT' -- rallied 51 percent, 88 percent and 80 percent year-to-date respectively to hit new all-time highs.

Investors are tempted to see the third quarter financial statements of BAT and other major Chinese internet firms listed in the US and other foreign markets. The reports will emerge late this month or next and will serve as an indicator of whether the upswing in share prices can hold out in the fourth quarter.

A strong yuan, China's stabilizing economy and significant profit improvement among Chinese companies have propelled the strong rallies in overseas-listed Chinese stocks (also known as China-focused stocks), Shi Jialong, an internet industry analyst at Nomura Securities, told Yicai Global.

"China-focused stocks may face a certain level of downside pressure in the fourth quarter following earlier gains, but they still have healthy fundamentals," he opined.

A Bull Run for China-Focused Stocks

American tech stocks have flourished this year, and the information technology sector outperformed the S&P 500 index by a good margin. US-traded Chinese tech firms posted more remarkable price rises. Some of them, such as Baidu, JD.com Inc. [NASDAQ:JD], Alibaba and Momo Inc. [NASDAQ:MOMO] have even outrun such home-grown meteors as Facebook Inc. [NASDAQ:FB], Apple Inc. [NASDAQ:AAPL] and Amazon.com Inc. [NASDAQ:AMZN]. Similarly, Tencent has become one of the Hong Kong stocks most sought-after by funds.

Most foreign institutions will continue to recommend Baidu, Alibaba, Tencent, JD.com and Momo to investors in the fourth quarter.

Baidu is slated to release its third quarter report on Oct. 26. Its share price hit a new high of USD254.28 on Oct. 10, then soared further to USD274.97 on Oct. 17, well above the last peak of USD251.99 recorded three years ago.

Chinese buyers and Wall Street are growing bullish about the Beijing-based internet search behemoth after price corrections last year. Furthermore, the firm is driving a full-scale transformation toward artificial intelligence (AI) technology, putting it at the forefront of the AI boom.

Baidu will register earnings per share of USD2.32 in the third quarter, up 55.7 percent from the USD1.49 EPS recorded in the same period last year, Wall Street's latest forecasts indicate. This year, Citigroup Inc. [NYSE:C], Bank of America Corp. [NYSE:BAC], Wells Fargo & Co. [NYSE:WFC] and Bank of America Merrill Lynch have raised target prices on the firm and upgraded its ratings to Hold or Buy.

"Foreign institutions typically view Baidu's performance in the context of the Chinese economy, and the stable economic growth is a main factor behind the price rally this year. Baidu is building a business ecosystem for the AI era, and this will boost its share price in the long run," New York Stock Exchange analyst Mark Otto told Yicai Global.

Baidu unveiled two open-source platforms, Apollo and DuerOS, earlier in the year, in a bid to create a complete, open and cutting-edge AI ecosystem. Apollo has attracted more than 70 partners thus far.

The use of Baidu's mobile search engine rose by eight percent on the quarter or by 53 percent on the year in the second quarter, said Shi, citing relevant statistics. "We believe an increase in traffic will benefit Baidu's news feed business, which explains the recent rating upgrades by institutions, because the traffic was mostly generated from mobile searches."

Tencent previously confounded expectations with a 59 percent jump in revenues (CNY56.6 billion) in the second quarter, making it the favorite stock for many funds. Its third quarter report will be out Nov. 15.

However, Tencent ramped up investment in video, payment and cloud computing businesses, and its non-GAAP (generally accepted accounting principles) operating profit went down by 5 percent in the second quarter despite the spike in revenues.

WeChat and games (King of Glory, in particular) are indisputably Tencent's most well-known businesses. Monthly active users (MAU) of WeChat grew by 19 percent to 963 million in the second quarter. This is an incredible achievement for many institutional investors, especially given the massive size of the user base. On the other hand, King of Glory currently ranks as the most popular iOS mobile game in China, but its MAU dropped for the first time in eight months by about 4 percent in August.

"We think the slip in the MAU number is attributable to tightened regulation over teenage players, but the impact is rather limited, and we expect that King of Glory will be a major revenue earner for the mobile game business at Tencent in the third quarter," Shi noted.

Most institutions reiterated the Buy rating for the company, and forecast that payment and AI will become Tencent's growth drivers over the longer term. Some of them assigned a target price of around USD48.7 (HKD380) per share.

E-commerce giant Alibaba will issue the third quarter report on Nov. 3. Its operating income rose by 56 percent to USD7.58 (CNY50.2 billion) in the previous quarter, with the growth rate remaining above 50 percent for five quarters in a row. Its non-GAAP net profit increased by 67 percent per year to CNY20 billion, and net operating cash flow grew 69 percent to CNY25.3 billion.

Chinese and international brokerages both agree that Alibaba's strong revenue and profit growth has proven that its ecosystem has far greater monetization power than the market expected, and that China's e-commerce market has unlimited development potential.

In the next five years, business growth at the company will be catalyzed by global retail and cloud computing, among other factors. In the second quarter, the former logged CNY2.64 billion in revenue with an annual increase of 136 percent, while the latter yielded a total revenue of CNY2.43 billion, an increase of 96 percent on the year. 

JD.com will publish its earnings report for the third quarter on Nov. 13. A capital-consuming business model relying on self-operated retail and logistics businesses means that the e-commerce firm must sustain low profits before it can turn a profit. However, most brokerages believe that continuous improvement in user experience, higher user stickiness and a growing market share will help the company unleash powerful economies of scale in future.

JD.com achieved profitability for the first time last year, swinging from losses in the previous 10 years to net profits of CNY1 billion.

In the second quarter, however, the firm registered a net loss of CNY287 million by GAAP standards, but non-GAAP calculations show a net profit of CNY976.5 million. The market found such a huge discrepancy between the figures very confusing.

"US-listed companies usually compile two sets of financial statements based on GAAP and non-GAAP metrics. The latter is a more accurate measure of business performance. For example, non-GAAP reports don't reflect one-time expenditures that are irrelevant to the company's long-term performance, and analysts typically base their analyses and forecasts on non-GAAP results," Brian Bushee, an accounting professor at  Wharton School (of Business) at the University of Pennsylvania, told Yicai Global.

In fact, JD.com's non-GAAP financials exclude a CNY747 million equity incentive scheme and amortization of intangible assets (CNY443 million) caused by asset and business acquisitions, which explains the inconsistencies between the reports.

Stocks' Fundamentals Will Not Be Affected by Market Corrections

In future, the performance of China-focused companies will be dependent on earnings results as well as changes in the American market and policies, a market insider noted.

"From a long-term perspective, I think the market is still on an upward trajectory. There're no major issues about the maturity structure of volatility index (VIX) futures, but CNN Money's Fear & Greed Index has reached an extreme level, meaning that the market may experience short-term corrections," said Situ Jie, a senior US stock trader.

China-focused stocks may retreat from the earlier gains in the fourth quarter, but their fundamentals will remain strong, Shi Jialong also predicted.

"China-focused stocks are still undervalued. For example, Baidu underperformed in the first quarter, but it caught up in the second quarter. The stock still has upside potential in future," Situ noted.

These stocks will rise further given their low valuations relative to US tech firms, another analyst suggested.

Alibaba's valuation grew to USD454.1 billion As of Oct. 21, compared with Amazon's USD478 billion. Baidu was valued at USD91.7 billion, far below the valuation of its American counterpart Alphabet Inc. [NASDAQ:GOOGL] (USD690.5 billion).

US-listed tech stocks will benefit from several positives, predicted Wang Xinjie, the wealth management investment strategy director at Standard Chartered China. First, is continuous profit growth. Second, is growing expectations of tax cuts. US President Donald Trump has called on tech giants to repatriate their overseas earnings to the US, and pledged to offer them tax breaks if they do. If they apply the money for financial investment, reinvestment in shares and dividend distribution will boost share prices. Third, given the weaker dollar, US-traded tech companies will be able to deliver stronger earnings results since they derive most (50 to 60 percent) of their revenues from outside the US.