This article is from: Sixiang Gangyin
01 Cyclical Growth Stocks vs. Long-Term Growth Stocks
Many investors hold a misconception that they must only buy stocks at their bottom. In reality, companies trading near their lows typically entail significant uncertainty and are suitable only for large investors deploying small positions or those with an informational edge.
A more suitable approach for retail investors is to identify individual stocks capable of sustained upside among those that have already risen—such as selecting growth stocks with strong long-term fundamentals from companies that have appreciated 30% to 50% from their lows. The rationale is straightforward: if the move reflects a fundamental turnaround, a doubling in price over two years from the absolute bottom is quite normal. Even after a 50% gain, there remains potential for another 50% to 100% upside over the next two years.
Moreover, companies that have already rallied tend to attract greater market attention and are backed by more extensive research coverage, making them better suited for retail investors who lack resource advantages.
However, the selection criterion should not be based on chart patterns (as technical analysis cannot predict long-term trends) but rather on fundamentals and valuation levels. Companies that have risen more than 50% from their lows generally fall into one of two categories: either they are long-term growth stocks undergoing valuation recovery driven by improving fundamentals, or they are 'cyclical growth stocks' realizing short- to medium-term thematic catalysts. The former carries a much higher probability of continued appreciation.
The distinction between 'cyclical growth stocks' and 'long-term growth stocks' lies in the sustainability of their core growth drivers: the former is underpinned by medium-term logic, while the latter rests on long-term logic. For example:
Industries with vast addressable markets tend to exhibit stronger growth sustainability and are more likely driven by long-term logic, whereas high growth in niche sub-sectors is more often attributable to medium-term dynamics;
High growth spurred by rising demand is typically a medium-term phenomenon, as demand cannot sustain elevated growth indefinitely; conversely, steady growth stemming from a stable competitive landscape is more likely rooted in long-term logic, as industry structures may have already solidified.
I do not mean to suggest that long-term investing is inherently superior to medium-term strategies. Rather, among companies that have already rallied, only those underpinned by long-term logic offer the probability of success required for sound investment decisions.
Assessment of long-term logic is generally based on the following three dimensions:
Growth rate is a medium-term factor, while market space is a long-term one; large industries are more likely to produce long-term winners.
Demand is a medium-term factor, while supply is a long-term one; companies with favorable competitive dynamics are more likely to become long-term winners.
Technology and products are medium-term factors, while business models are long-term ones; sound business models are more likely to give rise to long-term winners.
02 Market space is a long-term factor, while growth rate is a medium-term one.
When assessing a company's value, investors are often heavily influenced by its current-year growth rate and tend to equate high growth with quality.
This tendency has roots in cognitive psychology: growth rate is tangible and observable from the past, whereas market space lies in the future and requires research; growth rate is concrete, while market space is merely probabilistic.
However, if the industry’s addressable market is limited, faster current growth will lead to an earlier bottleneck and a lower ceiling, resulting at best in a 'medium-term high-conviction, long-term low-conviction' investment with strong near-term momentum but weak long-term potential.
Opportunities visible to everyone only lead to cutthroat competition—i.e., high valuations. Truly significant investment opportunities are often 'vaguely right.' Long-term logic is frequently counterintuitive: a large market is like a marathon—you don’t need to run fast; what matters is running for a very, very long time.
The classic example is long-term investors’ preference for companies like Aier Eye Hospital and Haidilao, which grow at around 20% annually yet trade at valuation multiples exceeding 100x—though, of course, whether such valuations are justified is another matter entirely.
The concept of 'large industry, small company' or 'long runway with deep snow' refers to situations where market capacity vastly exceeds a company’s current revenue—a relative notion. For instance, a leading sofa manufacturer, a leader in frozen and pre-prepared foods, a waterproofing industry leader with a market cap nearing RMB 100 billion, and an ophthalmology specialist with a market cap of RMB 200 billion can all still be considered 'small companies in large industries,' given their sectors’ vast size, low concentration, strong business models, and the existence of comparably large global peers.
The primary objective of a startup is survival. Whether operating in a large or small industry, each option has its pros and cons. However, once a company scales up and goes public, its initial strategic choices will ultimately determine its post-listing trajectory.
A typical mid-term investment candidate may appear, at first glance, to have no obvious gap in scale or product competitiveness compared to peers. Yet it suffers from being situated in either an industry with limited overall market potential or one that is highly fragmented. Even when benchmarked against foreign counterparts, such companies rarely achieve large market capitalizations—unless they possess the ability to expand into new product categories, they inherently lack a long-term investment thesis.
The concept of market potential is not difficult to grasp, yet forecasting the addressable market for a specific company remains challenging, primarily due to four key difficulties.
03 Difficulty One: Defining the Boundaries of Market Potential
When estimating an industry’s market potential, the main challenge lies in defining its boundaries. Barriers that deter ‘potential competitors’ from entering are often the same barriers that constrain your own expansion. In some sectors, these boundaries are easily crossed; in others, even products within the same company can be as distinct as businesses in entirely different industries.
Take lithium-ion batteries as an example. Energy storage batteries and power batteries were previously considered two distinct markets due to differing technical requirements. Consequently, Pylontech, as a global leader in residential energy storage, attracted significant investor attention at its IPO. Viewed through the lens of the vast energy storage market, Pylontech—with a market cap of RMB 30 billion—appeared to be a classic case of a ‘small company in a large industry.’
However, the issue lies in the fact that energy storage and power battery segments share highly similar supply chains and product architectures. CATL’s overwhelming scale, technological edge, and control over the supply chain have effectively blurred the distinction between these two segments. Combined with other factors, this has led investors to question Pylontech’s domestic market potential.
While product market size is relatively straightforward to estimate, assessing product-related barriers is far more difficult—this essentially reflects investors’ views on a company’s competitive strength.
04 Difficulty Two: Uncertainty in Product Penetration Rates
For mature products, historical data makes market potential relatively easy to calculate. However, for innovative products, penetration rate remains the most uncertain variable—and long-term projected penetration rates significantly influence assessments of an industry’s total addressable market.
Artificial intelligence is an application embedded across various scenarios and industries rather than a tangible, standalone product. Its long-term penetration rate is therefore highly uncertain. Companies like iFlytek, which operate across diverse downstream applications, present greater difficulty in assessing market potential compared to companies like Hikvision, whose downstream use cases are more clearly defined. Moreover, given its stronger software and platform characteristics, the former also exhibits higher valuation volatility than the latter.
The adoption rate of new products typically follows a pattern of 'slow initial growth—accelerated uptake—return to normal growth.' Taking electric vehicles (EVs) as an example, early mainstream consumers were cautious; only 'early adopters' would consider purchasing an EV as a second household vehicle, resulting in very low initial penetration. As ownership increased and prospective buyers observed more people around them using EVs, their willingness to purchase strengthened. The perception that 'everyone around me is starting to buy' marks the tipping point for accelerated adoption. Penetration only transitions into a phase of normal growth once all potential users have acquired the product.
This phenomenon leads investors to underestimate the long-term penetration potential of products in the 'slow adoption phase,' while tending to overestimate it for products already in the 'accelerated adoption phase.'
The early market chaos surrounding ready-to-drink alcoholic beverages left such a strong impression on investors that many—including myself—perceived it as a niche product and consequently missed the optimal investment window in 2020 when pandemic-driven conditions caused a rapid surge in penetration.
Furthermore, midstream manufacturing sectors—particularly TMT and high-end manufacturing—often require reassessment of penetration rates due to rapid technological shifts across the supply chain, which in turn affects estimates of total addressable market size.
Historically, the semiconductor industry alternated between phases of 'growth' and 'cyclical' behavior. Each time its downstream applications expanded—from PCs and laptops to smartphones and then to smart devices—the industry entered a growth phase; in the absence of new applications, it reverted to cyclical patterns. However, in the era of 'everything connected,' the range of devices requiring chips has expanded dramatically, spanning from consumer goods to industrial manufacturing. This has reopened the industry’s growth horizon, ushering in another prolonged 'growth phase.'
Challenge Three: How to Account for Market Expansion Driven by Product Category Diversification
Companies unfortunate enough to operate in narrow niches cannot go back in time to alter past strategic choices. Their only recourse is to expand into new product categories—or even pivot their core business entirely. A key advantage of being publicly listed is access to capital for investment; thus, most listed companies offer multiple products, and their total market opportunity must be calculated by aggregating the addressable markets of all product lines.
However, venturing into unrelated industries is extremely challenging. Market size estimates are meaningful only for leading players within a given sector. Developing 50 products, each with a theoretical market size of RMB 10 billion, does not equate to a combined RMB 500 billion opportunity if none achieves market leadership; in fact, such diversification may warrant a valuation discount.
Companies that successfully expand market size through category diversification typically enter highly related product areas. Their success hinges on inherent product attributes or industry business models, and they must possess a logical framework for overcoming cross-product barriers—for example, leveraging 'high-frequency usage to penetrate low-frequency markets,' 'high user stickiness to displace low-stickiness offerings,' 'high trust to overcome low-trust segments,' 'scale advantages to outcompete non-scalable models,' or 'platform-based strategies to surpass standalone product approaches.'
Take building materials, for example. Waterproofing products in this category are highly functional due to their concealed nature and high maintenance costs, making them high-trust products. When waterproofing companies expand into other building material segments, they follow the principle of 'high-trust displacing low-trust' and 'high-stickiness displacing low-stickiness,' reflecting a longer-term strategic logic.
In the case of home furnishings, it is easier for companies that start with sofas or mattresses to expand into other product categories, as this aligns with the principle of 'scale-driven players outcompeting non-scale-driven ones.' Consequently, sofa and mattress companies can more readily assess their total addressable market across the entire home furnishings sector, whereas other home furnishing firms typically evaluate market potential only within their specific sub-segments.
Consider semiconductor equipment: the market assigns a higher valuation to NAURA than to Advanced Micro-Fabrication Equipment Inc. (AMEC), which may seem unreasonable at first glance—NAURA derives only half of its revenue from semiconductor equipment, while AMEC leads in etch tools, the segment with the highest technological complexity and market potential. However, this valuation reflects the underlying dynamic of 'platform-based players outcompeting product-focused ones.' The market views AMEC as a product-centric company, whereas NAURA is positioned as a semiconductor equipment platform with stronger capabilities to diversify its product portfolio and thus a larger total addressable market.
A special case in category expansion is 'vertical integration along the industrial chain,' where companies extend their operations upstream or downstream, effectively turning suppliers or customers into direct competitors overnight.
The photovoltaic (PV) industry offers the clearest example: intense cost sensitivity among downstream players, combined with rapidly evolving technology roadmaps, has led to fierce bargaining dynamics between upstream and downstream segments—rivalry as intense as that among direct competitors. Under such conditions, vertical integration into adjacent segments enjoys a relatively high success rate. Integrated players benefit from greater market scope and longer-term strategic logic; when industry tailwinds recede, leading integrated firms experience smaller valuation corrections, justifying higher market valuations.
Within 'vertical integration,' the critical question becomes: who competes against whom? This depends on the product characteristics and business models across different segments. In the PV value chain, polysilicon production resembles chemical manufacturing, wafer and cell production closely mirrors semiconductor fabrication, and module assembly aligns more with high-end manufacturing—each segment exhibiting distinct industrial attributes. As a result, integration is typically achieved through M&A. Given the sector’s rapid growth and mutual offensive-defensive strategies among leaders, the industry is expected to ultimately consolidate into an oligopoly of several large, vertically integrated players.
Other industries do not exhibit such fragmented territorial competition. International experience shows that chemical companies ultimately gravitate toward vertical integration. Upstream players possess inherent cost advantages, and except for a few highly specialized niche products, most fine chemical segments will eventually be penetrated by a handful of large upstream petrochemical complexes and select fine chemical leaders. Consequently, these upstream integrated leaders enjoy the longest strategic horizons.
06 Challenge Four: Should International Markets Be Considered?
For products sold exclusively in the domestic market, international markets are generally excluded from market size calculations. This is because the domestic market itself is sufficiently large, international markets often differ significantly in terms of demand and regulation, and exporting typically requires overseas investment accompanied by complex approval processes.
However, if a company that originally operated solely in the domestic market—and already holds a solid market position—successfully implements an overseas expansion strategy by establishing sales channels and securing stable downstream customer relationships abroad, its addressable market expands dramatically. This sudden market expansion explains why many companies pursuing successful international strategies see their valuations break out of previous trading ranges.
This phenomenon was very common in Japan's stock market during the last century. As the yen appreciated, industry leaders entered international markets and became multinational corporations, instantly expanding their industry’s addressable market.
The expansion of market space through internationalization strategies opens up valuation potential and lengthens the investment logic. A typical example in China’s A-share market is Sany Heavy Industry: as its overseas sales ratio increases, its business cyclicality will significantly decline.
Some products are inherently borderless—for example, duty-free retail. Once the pandemic is brought under control, China Duty Free Group (CDFG) will directly compete with global duty-free giants from a competitive landscape perspective. However, from an industry addressable market standpoint, its potential expands to the entire global duty-free market. Therefore, one should not focus solely on bullish or bearish factors.
Due to space constraints, this article will not elaborate further on the other two long-term logical frameworks—'supply and competition' and 'business model'—but if readers are interested, these topics could be developed into a series.
07 The Impact of Industry Addressable Market on New Stock Valuation
Another purpose of distinguishing between long-term and medium-term logic lies in new stock pricing. Many investors do not understand why seemingly similar industries with comparable growth rates can have initial valuations ranging from 60–70x for some and only 20–30x for others.
New stock valuations are generally determined by assigning a valuation range based on the industry, then pinpointing a specific multiple within that range according to growth rate and competitive dynamics. However, many companies have ambiguous industry classifications. Some seemingly unremarkable sectors may, due to product characteristics, possess enormous market potential. After listing, as investor understanding deepens, such stocks may undergo repricing.
08 Long-Term Logic Does Not Equate to Long-Term Investment
Product market size represents a 'correctly imprecise' estimate—whether it is RMB 100 billion or RMB 150 billion is not critical.
Long-term investment logic is characterized by high certainty, long duration, and substantial upside potential—but the importance of these three attributes decreases in that order.
Therefore, the annualized return of a long-term thesis is not necessarily higher than that of a medium-term thesis; however, due to its greater certainty and more favorable time horizon, it allows for a more从容 approach to implementation.
Of course, a medium-term thesis does not equate to a medium-horizon investment position. A medium-term thesis may unfold in successive phases; as long as valuation remains reasonable prior to any shift in the underlying logic, the position can be held. Moreover, a medium-term thesis can evolve into a long-term thesis.
Similarly, a long-term thesis does not imply a buy-and-hold strategy. Given the excessive valuation volatility in China’s A-share market, style rotations often lead to significant valuation premiums. Therefore, adopting strategies such as 'think long-term, trade short-term' or 'think long-term, trade medium-term' is a key approach for value investors to generate alpha.
Market opportunity is dynamic, and competitive dynamics even more so—both require periodic reassessment. When visibility is low, it is preferable to reduce exposure proactively.
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Editor/KOKO