Let me be straight with you: I didn't own a single Chinese stock before 2008.
You may think that's shocking, considering I'm the co-advisor of our Motley Fool Global Gains international-investing research service. But before 2008, Chinese stocks were very expensive. That didn't stop many American investors, smitten with these stocks' momentum and potential for growth, from buying them up.
Today, I own positions in four Chinese stocks and in several multinationals poised to profit from China's growth story. I'm also looking hard at adding several more Chinese names to my portfolio. That's because these stocks have been crushed this year, and they now look quite cheap relative to their growth potential.
Of course, now most American investors won't touch these stocks with a 10-foot pole.
How I know that
I've written a lot about China for The Motley Fool and gotten a lot of feedback as a result. Here are some representative comments:
To be a successful investor in China, you must be an insider. Pretending there is Western-style transparency in the market is a folly. … Be prepared to pay a lot of bribes and don't be surprised if some of the people you bribe end up dead.
The only companies worth investing in China are China Mobile, CNOOC
(NYSE: CEO), PetroChina (NYSE: PTR), and Sinopec.
Subjecting Chinese companies to the same forms of analysis as you would a U.S. company is unrealistic. I wouldn't buy Iranian government bonds either. These are countries that make up written rules as they go along and abide by some very old unwritten rules that only apply to insiders.
And my personal favorite ...
China is run like an organized crime syndicate. I would no more trust a Chinese company with my money than someone that calls himself Fat Tony.
You get the point
Look, I'll be the first to admit that China is not all raindrops on roses and whiskers on kittens. But writing off the world's most populous nation and third-largest and fastest-growing economy as a criminal enterprise strikes me as ill-informed. As Warren Buffett has said, "A public opinion poll is no substitute for thought."
China's growth potential is tremendous, but if you're going to invest in the country, you shouldn't do so with blinders on. That's true no matter where you invest. Further, you shouldn't limit yourself to enormous state-owned enterprises such as those mentioned above.
While all four of those companies look reasonably valued and stand to profit from China's growth, they (1) won't protect you from Chinese shenanigans (see China Mobile's recent purchase of a stake in Shanghai Pudong Development Bank for evidence of that) and (2) simply don't offer the same growth potential as some of the smaller Chinese names. In other words, while these companies should be part of your China exposure, they shouldn't be all of your China exposure.
Further, remember that investing is dangerous no matter where you are. Here in the United States, we've had the Madoff scandal, the collapse of a housing industry whose growth was fueled by the questionable practices of people like Franklin Raines and Angelo Mozilo, and billions upon billions of dollars worth of asset writedowns at once-proud institutions like Citigroup and Bank of America, whose balance sheets to this day still should not be trusted. Heck, one of the causes of this whole ordeal was a product widely referred to as a "liar's loan."
No one is immune to fraud, greed, or management teams that are not acting in your best interests. And yes, there are management teams like that in China. The important point is that it's not all of them. You can succeed by finding the good ones and diversifying your portfolio appropriately.
At Global Gains, we've recommended that our members buy a basket of Chinese stocks with exposure to three key themes: the rise of the middle class, increased consumption of commodities, and continued infrastructure development.
If you take that advice, you might look at these groups of stocks:
The Rise of the Middle Class
Increased Consumption of Commodities
Continued Infrastructure Development
New Oriental Education
China BlueChemical, CNOOC, PetroChina, Zhongpin
Hang Lung, Jinpan International
Another Buffett quote is applicable here: "Be greedy when others are fearful." All you have to do is reread the comments I cited to see that individual American investors are running away from Chinese stocks. That means promising opportunities are being left behind.
I've made it my mission to find those select China opportunities, and I'm doing so through careful research, meetings with management teams, learning the language, and visiting the country as frequently as possible. That's why I believe I'm going to make money in China over the long term.
In fact, our Motley Fool Global Gains research team is headed back to China in July to do just those things. If you'd like to get free copies of our reports from the field, simply tell us where to send them by providing your email address in the box below.
Tim Hanson is the co-advisor of Motley Fool Global Gains. Jinpan International is a Motley Fool Hidden Gems recommendation. New Oriental Education & Technology Group is a Rule Breakers recommendation. CNOOC is a Global Gains pick. The Fool owns shares of China Mobile and has a full disclosure policy.