Charlie Munger is selling Alibaba!

If you've been following this channel for any amount of time, you know I'm a big believer that one of the best ways to learn about investing is to follow the portfolios of well-respected investors. Whether you are just starting out on your investing journey or have been investing for decades, it is probably the easiest way to improve your own investing skills and knowledge.

Charlie Munger is an investor whose portfolio I follow closely, and that's why I got my attention when I saw the headline that Munger had sold two shares in Alibaba, the Chinese e-commerce company. Frankly, this news caught me by surprise. Charlie Munger and his business partner Warren Buffett are known as the ultimate buy-and-hold, long-term-focused investors. So this raises the million-dollar question: why is Munger selling Alibaba stock less than a year after he bought it?

In this video, we will analyze that question and see what lessons you can start applying to your own investing process. But first, make sure to like this video and subscribe to the channel if you aren't already because it really helps out a ton. Now let's jump into the video.

Charlie Munger oversees and controls the investment portfolio of the Daily Journal Corporation. This portfolio is worth over 200 million dollars, and to say it's concentrated would be an understatement. Only two stocks, Bank of America and Wells Fargo, make up 80 percent of the portfolio. In fact, there hadn't been a new stock added to the portfolio in years. That's why I got a ton of attention when Munger and the Daily Journal Corporation invested a sizable portion of the portfolio into Alibaba stock. Alibaba was the first new stock to enter the portfolio in at least nearly a decade.

To say this was a controversial investment would be an understatement. I have studied probably every investment Charlie Munger has made throughout his career, both his own investments and those through his leadership position at Berkshire Hathaway with his business partner Warren Buffett. I don't think there's ever been an investment in Munger's entire career that has received such a strong reaction as his investment in Alibaba. Just a month ago, Munger was defending his investment in Alibaba.

Listen to what he had to say. But first, if you're watching this video about Charlie Munger's portfolio, you probably want to grow your own stock portfolio, right? By downloading the Weeble stock brokerage app at the link in the description of this video, you can get 5 free stocks with a deposit of as little as 1 cent. You should download the app using the link in the description because it's literally free money that will help you build your own investment portfolio. Now let's hear what Munger had to say.

"China is uninvestible in my opinion at this point. I've never invested in China long or short. Why is that? I don't trust the data. I don't trust the relationship between the United States and China anymore. I think that investments in China could be confiscated. I think there's a risk of that."

Obviously, with a significant percentage of the Daily Journal's marketable securities invested in BYD and Alibaba, you feel differently. Please explain why you are right.

"Of course, only the future knows who's going to be right. But China is a big modern nation; it's got this huge population and this huge modernity that's come in the last 30 years. We invested some money in China because we could get more value in terms of the strength of the enterprise and the price of the security than we could get in the United States. Other people, including Sequoia, the leading venture capital firm in the United States, have made the same decision we have. But I'm sympathetic to Gun Law; he's nervous. He doesn't have to join us. I feel about Russia the way he feels about China: I don't invest in Russia, so I can't criticize Gun Law's point of view. It's just I reached a different conclusion."

Why would anyone as smart as Munger or Buffett consider investing in China or any of the Chinese companies? "Well, we did for a very, very simple reason: we got more strengths per dollar invested in China. The companies we invest in are stronger relative to their competition and priced lower. That's why we're in China."

Oh, and considering the fortune Berkshire made on your BYD suggestion, why doesn't Buffett buy Alibaba? "Warren, like many other intelligent people, likes to invest where he's personally comfortable. For some reason, I'm more comfortable with the Chinese than he is. But I have all kinds of places where I'm just like Warren, and I have all kinds of things where I'm not comfortable, and I just don't go near them. I think an old guy is entitled to invest where he wants to invest in what makes him uncomfortable. What do you notice? It's okay to have some things that you just don't want to bother with."

"I don't think Alibaba is as entrenched as something like Apple and Alphabet. I think the internet is going to be a very competitive place even if you're a big internet retailer."

I think it's definitely worth acknowledging that those criticizing the investment in Alibaba had good reasons. Based on everything I've read and the research I've done, I've identified three main reasons why people are bearish on Alibaba. Obviously, a ton of research went into this video as I was learning about Alibaba in order to provide you guys with quality content. That research was made way easier because of Quarter, the sponsor of today's video. I reached out to Quarter to sponsor this video as it streamlines the investment research process and should be a foundational tool for any fundamental investor. I was able to read through earnings call transcripts for Alibaba and see what Wall Street analysts were saying about the company, as well as gain access to investor presentations on the company. The best part of this app is that it is completely free; download the app at the link in the description.

Now, here are three reasons I identified as to why investors are skeptical of Alibaba. The first reason that I would point to is government policy. In most countries, companies exist for one reason: that is to make the owners of the company as much money as possible. In America, it's literally written into law that CEOs and management of a publicly traded company have what is referred to as a fiduciary duty to the shareholders of the company to maximize the value of each share of stock. That is not the case in China. The government of China has a much larger role when it comes to the operations of businesses in the country.

At any given moment, the government can decide to take steps to limit the profitability of certain companies or industries. One of the hottest investments in China was for-profit tutoring companies. Investors in these companies saw a huge market of millions of customers that were willing to use these services. However, the Chinese government banned these companies from making a profit, essentially turning those businesses into non-profit organizations. As I'm sure you can imagine, this news sent the stock of those companies cratering.

Then there is the failed Ant Group IPO. Ant Group is the fintech subsidiary of Alibaba, and it was looking to raise 36 billion in what would have been the largest IPO in the world. Investors across the world, including many American and European investors, were going to invest in the company. Then at seemingly the last minute, Chinese regulators pulled the plug and stopped the company from IPO'ing.

As a professional investor myself, I have learned that investors love certainty, and the role of the Chinese government when it comes to businesses in China is a huge source of uncertainty. This brings me to point number two on why investors have been cautious on China. An example of this is Luckin Coffee. Luckin Coffee is a Chinese-based coffee company and coffee house chain founded in China in June 2017. Luckin positioned itself as a local competitor to Starbucks, opening thousands of stores in its first two years as a business.

The stock was popular among investors and rose to a high of over 50 dollars per share in January 2020. However, it turned out that the company's numbers were fraudulent, or put another way, what the company was telling its investors it had achieved in terms of revenue, expenses, and profit were fake. The stock plunged as a result, and within just a couple of months, the stock was trading at around a dollar.

Luckin Coffee ended up agreeing to pay a 180 million dollar penalty to settle its accounting fraud charges. In order to invest in a company, you have to analyze its numbers, and in order to do that, you have to trust that those numbers are accurate. Concerns over the accuracy of numbers that companies in China report is a big reason why some prominent investors have called the country uninvestible.

The third reason why investors are hesitant about investing in Alibaba applies not only to Alibaba but many other Chinese stocks that non-Chinese investors are buying. For example, when an American investor buys Alibaba stock, they aren't actually buying stock in the company. It gets a little confusing, but let me explain. As we talked about earlier, certain Chinese industries are heavily regulated. Among the restrictions on these industries are limits on how much of the company can be owned by foreign investors.

Chinese companies like Alibaba and Baidu list their stocks in the U.S. to tap the massive U.S. capital markets and to get around foreign ownership restrictions. The companies establish intermediate companies registered outside of China. These intermediate companies are called Variable Interest Entities, or VIEs for short. For example, Alibaba set up its VIE in the Cayman Islands outside of the Chinese government's jurisdiction.

Once the VIE is established, the Chinese company and the VIE establish a contractual relationship in which the VIE receives the profits from the Chinese company and its assets. In other words, the VIE has a contractual right to the Chinese company's profits but not to the company itself. While certain Chinese companies can't list on U.S. stock exchanges directly, they can certainly list their VIEs. When American investors buy shares of ticker BABA on the New York Stock Exchange, they are investing in Alibaba's VIE, not the Chinese company itself.

All of these risks were around when Munger first invested in Alibaba, and I guarantee he was aware of them. However, it's interesting that he has chosen to sell such a large portion of his holding in Alibaba after first buying it only around a year ago, especially when you consider that Munger is known for his buy-and-hold long-term investing style.

Based on my studying of Charlie and Warren, I have identified the three reasons they have provided for when a stock should be sold. Let's go through that list of reasons and see how it compares to the current situation with Alibaba. This list will be helpful for you to apply to your own investing because knowing when to sell a stock is arguably one of the hardest parts of investing.

The first reason why Buffett or Munger would sell a stock is if they need that money to buy something else. Keep in mind that this Alibaba position was not in Munger's personal portfolio; instead, it was in the portfolio he manages for the Daily Journal Corporation. The Daily Journal is a newspaper publisher that is also developing software for lawyers. It may be possible that the business needed some cash in order to fund its operations; however, this seems unlikely as Alibaba was the only position that was sold down. The Daily Journal actually took on margin debt to make this investment.

This means that the company borrowed money in order to invest it in Alibaba stock. This is something that both Warren Buffett and Charlie Munger have said most investors should never do. It could be that Munger and the Daily Journal were no longer comfortable having this debt, so they sold a portion of Alibaba stock to pay off the debt.

The next reason why both Munger and Buffett have talked about selling a stock in the past is if the stock becomes too large a percentage of the entire portfolio. However, given that Munger seems to be much more comfortable with having a concentrated portfolio than Buffett, I don't think this one applies to Munger selling Alibaba stock in the current Daily Journal Corporation stock portfolio. The top two positions account for over 80 percent of the entire portfolio, and in terms of Munger's own personal stock portfolio, he has mentioned in interviews that the vast majority of his wealth is in two stocks: Berkshire Hathaway and Costco.

The third reason why Munger could have sold is if the underlying fundamentals of the business have changed. Based on my studying of Munger and Buffett, this is the most frequent reason why they sell stocks. If the underlying fundamentals of the business have deteriorated, that could be a great reason to sell and move that money into a better business. This could likely be what happened with Munger and the investment in Alibaba. If the underlying long-term fundamentals of Alibaba changed in the opinion of Charlie, it wouldn't surprise me to see him sell the stock.

I think these three reasons are all important lessons from Charlie Munger on when to sell a stock and are all lessons you can use in your own investing. It could make sense to sell a stock if you need that money to buy an even better investment, if that stock has become too large a percentage of your portfolio, or if the underlying fundamentals of the business have deteriorated. Other than that, it usually makes sense to buy and hold for the long term.

If you're interested in seeing my personal stock portfolio, you can access that at my Patreon at the link in my description. This is where I share the stocks I'm buying and selling, as well as spreadsheets and checklists I use to analyze stocks. Make sure to like this video and subscribe to the Investor Center if you aren't already because it's my goal to make you a better investor by studying the world's greatest investors. Talk to you next time.