After a deep correction in the first half of the year, the Chinese internet sector is experiencing a wave of sentiment recovery.
According to a recent research report from Bernstein, the market's pessimistic interpretation of AI inference costs is severely distorted. This, combined with catalysts such as the release of TENCENT's Hy3 model and stronger-than-expected growth at Alibaba Cloud, has led to a rebound in sector valuations from the historical lows of 2022-2023, improving the risk-reward profile.
The launch of TENCENT's Hy3 model and the initial rollout of its WeChat AI assistant to users are the core drivers behind the recent improvement in sector sentiment.
Bernstein analyst Robin Zhu noted in the report that some previously circulated narratives about AI costs—such as platforms needing to subsidize inference costs indefinitely—are "severely inaccurate and overly pessimistic." Meanwhile, Alibaba Cloud's revenue growth accelerated to the mid-40% range in the second quarter, and e-commerce profits also exceeded expectations, collectively fueling the sector's rebound.
Bernstein maintains "Outperform" ratings on TENCENT, Alibaba, NetEase, JD.com, and Kanzhun. It sets a target price of HK$780 for TENCENT, implying roughly 69% upside from current levels, and a $40 target for JD.com, representing a forward 2026 P/E of only about 8.4x.
The report clearly states that TENCENT's current valuation of 11-12x forward P/E is low. As various negative factors gradually dissipate, the stock price is expected to revert to its historical average range of 17-18x seen since 2021.
AI Cost Fears Exaggerated, Inference Expenses Not a Bottomless Pit
One of the core bearish arguments surrounding TENCENT and Alibaba is that AI deployment will lead to significant profit erosion from inference costs, while monetization from consumer-facing AI remains distant.
Bernstein counters this, stating that explosive growth in inference costs is contingent on a simultaneous takeoff in agentic transaction volumes and GMV.
Data shows that chatbot-style conversations typically consume only a few hundred tokens, whereas agentic transactions average around 50,000 tokens. In other words, TENCENT's token consumption would only grow exponentially if agentic transaction volumes truly surge.
The report acknowledges a time lag between user engagement growth and monetization but argues that history suggests the latter is a question of "when" rather than "if."
Regarding capital expenditure, TENCENT's capex as a percentage of revenue over the past 12 months was 10.9%, lower than Alibaba's 12.3%. Relative to operating cash flow, TENCENT has greater room for capex expansion than Alibaba. For Alibaba Cloud, Q2 revenue growth accelerated to the mid-40% range, with low double-digit margins implying an incremental cash margin of 35-40%. Alibaba also indicated it would continue to raise computing power prices within the year.
TENCENT's AI Strategy Takes Shape, Hy4 Timeline a Key Watchpoint
The report details the latest progress in TENCENT's AI deployment. The Hy3 model shows significant improvement over the April preview version, and the WeChat AI assistant has begun a limited rollout with positive early feedback, synergizing with agent2agent agreements signed with major Android phone manufacturers.
It notes that the Hy team and the WeChat team at TENCENT have operated independently. Management explained this was to avoid interdependency and prevent delays from one side affecting the other. During this period, the WeChat team used leading domestic models like DeepSeek for product iteration, with its own AI assistants reaching 8-9 million monthly active users, providing user feedback for the Hy3 team.
Bernstein expects collaboration between the two teams to deepen as the Hy4 and subsequent models improve. Based on the industry pattern of Chinese AI labs scaling parameters by 2-2.5x on average, a Hy4 preview could be released around year-end. The report believes most AI functions TENCENT aims to implement within WeChat are relatively straightforward by current agentic AI standards, suggesting its in-house models could reach a "good enough" level relatively quickly.
Regarding monetization, the report emphasizes that the trillions of RMB in GMV from WeChat Mini Programs represent TENCENT's core AI monetization opportunity, primarily through the merchant side. This contrasts sharply with the pessimistic sentiment in Western markets, where investors have largely given up on near-term consumer AI monetization.
Alibaba's Restructure Boosts Valuation, Seasonal Catalysts in View
Bernstein is cautiously optimistic about Alibaba's recent business restructuring. Moving Freshippo from "Other" into the China Commerce segment and integrating T-Head's chip business into the Cloud division should improve growth rates for the key segments investors focus on, which is positive within a sum-of-the-parts valuation framework.
The report points out that Neocloud's arrangement of selling T-Head chips to clients and leasing back computing power helps reduce the reported capital intensity for Alibaba Cloud while supporting the narrative for external chip sales revenue. Additionally, Alibaba's approximately 5% stake in ChangXin Memory Technologies holds potential value that should not be ignored.
Historical patterns are also noteworthy: in both 2024 and 2025, Alibaba's stock price reached interim highs around the September Apsara Conference. Bernstein views the progress of ChangXin's potential IPO and the Apsara Conference as forming an important catalyst window in the coming months.
NetEase, JD.com, Kanzhun: Low Valuation Paired with Profit Growth
For other key stocks, Bernstein holds a positive view on NetEase, JD.com, and Kanzhun, with the core logic being the combination of low valuation and earnings growth.
For NetEase, the domestic launch of "Sea of Remnants" on July 23rd may lead to some stock price consolidation, but catalysts for the second half include a low revenue base, accelerated buybacks, expectations for southbound fund inclusion, and news flow around "Ananta." Bernstein's backtest shows a high correlation between past periods of accelerated buybacks at NetEase and subsequent stock performance.
JD.com and Kanzhun currently trade at mid-single-digit forward P/E multiples—the latter at only about 4x after adjusting for cash and investments—while both companies maintain double-digit profit growth. Bernstein raised its profit forecasts for JD.com, with its 2026 non-GAAP net profit estimate increased by about 8.8%, mainly reflecting faster-than-expected narrowing of losses in the food delivery business and ongoing margin improvements.
In contrast, the report is more cautious on Meituan and Pinduoduo. Meituan's recent rebound leaves limited upside, and its AI investments may still be in early stages. Pinduoduo management's continued avoidance of communication with investors regarding capital return is seen as a core obstacle for long-term investors.
Valuations Near Lows, but Conditions for Recovery Building
From an overall valuation perspective, the Chinese internet stocks covered by Bernstein have fallen an average of about 16% year-to-date (including the recent rebound). They currently trade at average forward 2026 and 2027 P/E multiples of 14.3x and 12.1x, respectively, with the latter only slightly above the historical lows of 2022-2023—a period when fundamentals were severely impacted by China's "zero-COVID" policies.
In terms of free cash flow yield to enterprise value, TENCENT and JD.com are around 5%, NetEase about 10%, and Kanzhun close to 20%. JD.com, Kanzhun, and Pinduoduo all have net cash exceeding 40% of their market capitalization, with JD.com and Kanzhun management actively repurchasing shares.
Bernstein argues that TENCENT's current low valuation reflects a series of concerns that are "reasonable for now but will ultimately fade," including slowing game growth and expense pressure from AI investments. Conditions for a clearer reversal signal include a bottoming and recovery in operating profit forecasts, the emergence of a hit new game ("Delta Force" is currently performing strongly), or the release of Hy4 truly settling debates over AI capability. The report believes that as these factors materialize, TENCENT's stock price is unlikely to remain at a 11-12x forward P/E multiple for long.
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