It’s time to make a big bet and begin investing in China.

I know. It’s not exactly a popular stance. And the smart money is doing exactly the opposite. Or so it appears…

Recently, the Royal Bank of Scotland hit up the China ATM for a $2.37 billion withdrawal. It sold its entire 4.3% stake in Bank of China. And a week ago, Bank of America cashed out part of its stake in China Construction Bank Corp. for an estimated $2.83 billion.

Making matters worse, the MSCI China Index lost a record 53% last year. It’s counter-intuitive and near impossible to rationalize adding money to a losing investment.

Ways to buy
Invest in small caps with the strongest growth profiles. At the top of my list is China Security & Surveillance (NYSE: CSR), a leading provider of digital surveillance technology, and A-Power Energy Generation Systems (Nasdaq: APWR), a power equipment company. For those with a more conservative bent, I’d stick to large-cap, blue chip, best-of-breed China stocks. Ones like China Mobile Ltd. (NYSE: CHL), the world’s largest phone company. It sports a solid balance sheet, increasing profitability, and a temporarily cheap valuation.

Here are eight reasons why investing in China is exactly what you should do:

1. The truly “smart money” is buying, not selling. To be fair, the reason Bank of America “took a little money off the table,” according to spokesman Bob Stickler, is because of its own financial condition and need to raise cash. Same goes for the Royal Bank of Scotland. Yet, looking past these institutions, the truly smart money is loading up on China. Mark Mobius, the king of emerging markets, sums it up best: “We’re having a wonderful time buying tremendous bargains.” Stats from research firm EPFR indicate the rest of the smart money is following suit. Funds investing in emerging-market stocks raised their Chinese holdings to the highest level since 1995.
2. Chinesestocks are cheap. If legendary investors like Warren Buffett salivated over U.S. stocks trading at 12 times earnings, they should be rabid over Chinese stocks. Based on the MSCI China Index, the average Chinese stock trades for less than eight times earnings.
3. Share prices are contracting, but earnings keep growing. Based on the severity of the sell off, you’d think every Chinese company was unprofitable and headed for bankruptcy. Yet the fundamentals remain rock solid. The average Chinese company is still growing earnings by 30%, according to a recent report in China Securities Journal. Compare that to the estimated 12% earnings decline in the fourth quarter for the companies in the S&P 500, and the bargain valuations make even less sense.
4. Chinese investors learned a tough, but necessary, lesson. During the height of China’s economic boom, retail investors viewed the stock market as an ATM. They lined up by the millions to open brokerage accounts. But much like our infamous dot-com bubble, Chinese day traders and novice investors got a painful reminder of what happens when the “Greater Fool Theory” reaches the last idiot. The important thing, however, is that the correction served a higher purpose. It began the process of flushing the extreme irrationality from the market. So we can be certain the next leg up will be governed by fundamentals, not hype.
5. Oil is much cheaper. One of China’s biggest challenges was to keep a lid on inflation, while still maintaining its breakneck pace of economic growth. That was no easy task with oil at $150 as the cost of shipping, food, and fuel were increasing rapidly. Keep in mind, China imports a net 3.3 million barrels of oil a day. Now that oil prices are down considerably, we can cross one big inflation risk off the list.
6. The economy is NOT in a recession. Sure, it’s slowing down, but China is still on track for a solid 6% expansion based on analysts’ estimates. And 8% if you believe the government statistics. Regardless of who ends up being right, compared to the contraction in the U.S., such a rate is downright explosive.
7. Massive foreign reserves. The last time Chinese stocks were this cheap was during the Asian financial crisis. Back then, most Asian countries were running huge deficits. But this time the roles are reversed. As of December, China boasts $1.95 trillion in foreign reserves. And counting. If necessary, the government can deploy these surpluses to keep economic growth humming along.
8. Personal savings. Unlike Americans that spend more than they earn, the Chinese save an amazing 35 cents on every dollar. This provides yet another cushion against any slowdowns. But also an enormous opportunity for future growth. As China’s economy develops, and affordable insurance and health care become ubiquitous, expect the Chinese to get comfortable spending more of their hard earned cash.

About the author

Louis Basenese is a former equity specialist at one of the world’s largest investment banks and one of the industry’s sharpest financial analysts. Louis writes for Investment U (www.investmentu.com), an online investment newsletter published by The Oxford Club(www.oxfordclub.com), where he is also a senior analyst. Louis offers three more reasons why you should invest in China, here: www.investmentu.com (issue # 915).