The Best Bet in Town

Ahead of the Street Column, by Mitchell Clark, B. Comm.

When the stock market retreats, some of the highest-risk stocks tend to pull back harder than the rest. As a group, U.S.-listed Chinese stocks illustrate this perfectly. They offer some of the highest growth rates available in a public company and, at the same time, they bring with them some of the greatest volatility and investment risk.

For speculative investors and traders, this group does offer some of the most promising investment opportunities in the marketplace at this time. And it’s not only small-cap and micro-cap stocks that are leading the way. My favorite ETF, the iShares FTSE/Xinhua China 25 (NYSE/FXI), has shown tremendous leadership this year. I think it will continue to outperform and lead global equity markets over the coming quarters.

There have been some real standout U.S.-listed Chinese stocks in recent months and most of them are considered micro-caps by our standards.

I’ve written about three of these companies in this column: China Sky One Medical, Inc. (NASDAQ/CSKI); A-Power Energy Generation Systems, Ltd. (NASDAQ/APWR); and VanceInfo Technologies Inc. (NYSE/VIT). All three of these stories have unique qualities to them, but they all are about significant growth in a country that continues to experience major economic changes.

In recent quarters, these companies have distinguished themselves with major top-line growth, but they’ve also been exceptionally profitable. A lot of Chinese companies are what we would refer to as overly profitable, because their labor and material costs are so much lower. Also, with such a large population as a target market, the economies of scale are enormous.

As a group, I would say that U.S.-listed Chinese stocks are undervalued compared to similar U.S. companies. This is the risk premium associated with businesses that operate in China. No doubt, there are increased risks for investors in these companies.

One thing that we haven’t been getting a lot of lately is new listings on American stock exchanges. We can thank the recession and the financial crisis for this. I do think, however, that we’re going to get a lot more U.S.-listed Chinese stocks listings over the coming quarters and investors will be well served by keeping an eye on them.

The fact of the matter is that there is no significant growth available from any other source. Already, institutional investors are participating in this group of stocks like never before. More great investment opportunities like these are coming down the pipeline and I look forward to checking them all out. It’s still a Wild West economy over there, but, without China’s growth, the economic opportunities for the rest of the world are few and far between.