Summary

• Alibaba investors have experienced an incredible surge in recent weeks, taking it to highs last seen in late 2021.

• Alibaba is seeing strong gains across its various business segments, particularly in cloud computing and AI.

• DeepSeek has triggered a monumental increase in enterprise AI adoption, while spurring a new era of AI opportunities for the Chinese tech leader.

• Alibaba may yet face constraints from tightened US chip export restrictions.

• Yet, BABA's stock remains fundamentally undervalued, and investors should prepare themselves to load up at its next pullback.

• Looking for a helping hand in the market? Members of Ultimate Growth Investing get exclusive ideas and guidance to navigate any climate. Learn More »

maybefalse

What a rally for Alibaba (BABA) investors. It has been a spectacular run for BABA since my previous update, where I highlighted that it was better to wait for a pullback first, before deciding to go further and chase the recovery in BABA. However, the market seems to have ignored my caution, as Alibaba investors returned with such conviction, taking the stock past levels last seen in December 2021.

So if you have been following Alibaba's updates closely over the past week, you should be aware that the company announced its earnings release just last week. I think what surprised me during that earnings report is the ability for Alibaba Cloud to demonstrate its profitability potential, showing that scale matters after all in Cloud infrastructure spending. And although Alibaba Cloud remains a much smaller player as compared to the US hyperscalers, it is still one of the top leaders in China's cloud-computing industry. Coupled with Alibaba's immense cash and liquidity position, it augurs well for investors, as the company has articulated an aggressive spending roadmap to further develop and build up its AI infrastructure over the next three years.

Alibaba earnings highlights

As you can see in the above earnings highlights for Q3 of fiscal 2025, the company highlighted that cloud computing revenue grew at 13% year-on-year, and in particular AI revenue surged to triple digits, demonstrating how Alibaba has been able to capitalize on its leadership in China. Now, we all know that the achievements of DeepSeek’s most recent AI breakthroughs have heralded a renaissance in China's AI and tech industry. As a result, even though the US tech industry has suffered a significant pullback in recent days, investors have continued to pour into China's tech stocks, helping them to maintain their momentum, suggesting a massive reallocation from investors would have likely taken place.

Furthermore, as Alibaba has demonstrated, it seems to have regained its footing in its China e-commerce business, as customer management revenue grew by an encouraging 9% year-on-year. Therefore, the competitive dynamics that were affected by local rivals seemed to have diminished, allowing Alibaba to consolidate its prowess and market share, and avoid being buffeted further and engaging in a debilitating price war.

Moreover, Alibaba has assured investors that its growth segments are likely to reach profitability in the next few years, particularly in its international business, known as AIDC. Now, if you have been keeping tabs on AIDC, you should have known that it has been a strong growth driver for Alibaba, although profitability has remained a daunting challenge. Therefore, the assurance by management in highlighting that this segment is on track to be self-sufficient could allow the company to invest more aggressively in AI, potentially extending its lead further in infrastructure spending and also monetization opportunities.

And that's exactly what happened over the past week where Alibaba corroborated the optimism of investors who returned to the stock, by highlighting the most aggressive AI investment ever in the company's history. And for those who missed the report, management made it very clear that it wants to be among the forerunners to attain AGI, which is also being pursued by DeepSeek. It seems to me that DeepSeek has not only re-invigorated the competition in the US, but also decidedly in China. The initial forerunner in the race, Baidu (BIDU) has also decided to open source its most advanced AI models while incorporating multimodal AI capabilities for its leading edge models. It just goes to show how competitive the AI environment is in China right now and therefore, I believe Alibaba's decision to take advantage of its highly cash flow profitable business in e-commerce to invest in and capture future demand as AI adoption intensifies further among enterprise customers is an appropriate posture. While I believe the strategy may not pay off in terms of a near-term profitability inflection, the fact that Alibaba cloud has continued to see constructive gains in EBITA profitability growth is a testament to the execution capabilities of the current management team.

Alibaba estimates (TIKR)

As a result, I believe the market is positioning for continued improvement in Alibaba's operating margins over the next few years, and that it's predicated on management's assurances, and also recent execution which has clearly demonstrated the company's improved execution that was arguably lacking previously. Given Alibaba's well battered valuation metrics, I believe investors have likely understated their expectations on how the company could continue recovering as they fend off competition from e-commerce rivals while being stymied by the tepid AI market dynamics previously.

However it seems that DeepSeek has unleashed healthy competition and also potentially improving AI adoption prospects not just for Chinese enterprises, but also for the Cloud computing leaders like Alibaba in China. And therefore while CEO Eddie Wu’s gambit to take the lead in its bid to achieve AGI ahead of its peers may seem aggressive for now, I believe Alibaba's cash position of more than $51 billion, positions it very well to invest with higher conviction, anticipating a more sustained push among Chinese companies to take up AI. And Alibaba's AI advantages would not just benefit its cloud computing business, but also unlock the opportunity for the company to gain traction and embed AI in its marketing as well as e-commerce business to bolster its competitive edge against its rivals.

Now, Alibaba's forays to stay in front of its peers in the AI race aren't without risks. Obviously, the company needs to show that it has the computing infrastructure to maintain its leadership. However, the US government under President Trump is expected to tighten the US chip export regulations to China, although details are scant for now.

Yet, the threat of losing access to Nvidia’s (NVDA) H20 chips could present a stumbling block in Alibaba's ambitions, although bullish investors may contend that competitive AI chip offerings from Chinese companies like Huawei may start to blossom. Yet, Chinese companies are still assessed to want to work with the best in the business (Nvidia), suggesting that the relationship with Nvidia would lightly persist for the foreseeable future. Nvidia’s recent commentary at its earnings call indicates that China-based revenue is still expected to be maintained at the current percentage levels, although it has likely peaked. Therefore, they could expose underlying challenges in Alibaba's aggressive investment strategy that may come under pressure depending on how the US government decides to impose additional restrictions and impediments to counter China's AI Supremacy ambitions. This is something that I exhort Alibaba investors to monitor carefully and scrutinize how BABA intends to navigate these constraints while maintaining its competitiveness against its arch rivals.

BABA valuations

That being said, I believe it's quite clear that Alibaba stock is not valued at a significant premium. In fact, Alibaba bulls could argue that BABA still trades at a pretty significant discount against its long-term valuation averages. Based on BABA’s forward EBITDA multiple of 9.3x, it remains substantially below its industry median of almost 16x.

When assessing BABA's forward PEG ratio of just 0.81, even the recent upside re-rating hasn't led to an overvaluation situation just yet. In other words I see that the opportunity for a further valuation upgrade isn't considered unreasonable, although there are signs that the consecutive rally since BABA bottomed in January may have reached well overbought levels.

BABA price chart (weekly, medium-term) (TradingView)

Now, for a stock to resume its uptrend bias, it's imperative that the stock continues to demonstrate conviction among momentum buyers, seeking to capitalize on its ongoing recovery. For BABA, it’s clear the investors are convinced to lead the stock higher as it exploded past its October highs. Therefore, it corroborates the bullish thesis that the stock is on its way to regaining its upward momentum, as it staged a series of higher-highs and higher-lows that are critical to underpin a sustained advance and recuperation in buying sentiments.

As a result, I'm increasingly confident that Alibaba stock is on its way to maintain its upside bias in the medium term. That being said, I also observed that the rally has been taken too far and too fast in the near term, suggesting that a consolidation and pullback is looking more and more likely, possibly offering dip buyers another opportunity to add more aggressively at the next retracement.

Therefore, I am inclined to maintain my Hold rating for now, but believe investors should be on the lookout for the next opportunity to buy on the dip in BABA stock.

Rating: Maintain Hold.