China's 9% stock-market dive Feb. 27 took a big bite out of its gains for the year and triggered a vortex in global markets. But several fund managers remain fully invested and are long-term bullish on Chinese stocks.

They cite belief that strong economic growth will continue.

Curiously, the Shanghai composite index, ground zero of the market temblor, has regained most of its loss, while other key indexes have not. The Shanghai index at Wednesday's close was 4.42% off its Feb. 26 peak and up 8.63% for the year.

The Hang Seng index, composed of Hong Kong listed stocks, fell 1.76% Feb. 27. It actually topped four sessions earlier. It's now 9.48% off its peak and down 5.65% for the year.

As such, the Hang Seng appears to have less in common with the Shanghai index than it does with the S&P 500. The US index fell 3.47% on Feb. 27 and is now 5.67% off its peak and down 2.7% for the year.

At least some of the divergence in the Shanghai market stems from its insular nature. The Shanghai index is filled with A shares, which are limited to few foreign investors, a small number of funds, companies and mainland Chinese. The Chinese for the most part can only invest in mainland stock markets, and not Hong Kong's. Shorting isn't allowed.

The Hang Seng index tracks a Hong Kong market dominated by long-established corporations. Mutual funds mainly buy stocks listed in Hong Kong, which is more liquid and open to foreign investors.

The sell-off left China region funds down 2.16% for the year as of March 8, according to Lipper Inc. Investors headed for the exits. Last week as a result of fund share redemptions and declines in net asset values, assets in China country funds fell $964.8 million, or 5.9%, according to Emerging Portfolio Fund Research. Assets in greater China funds, which invest in mainland China, Hong Kong and Taiwan, fell $1.03 billion, or 4.6%.

Still Upbeat

Despite the hiccup, managers of several funds that invest in China remain upbeat. Within two hours after the market closed on Feb. 27, Edmund Harriss, director of Guinness Atkinson Asset Management in London, fired off a note to reassure shareholders: "While these moves may seem dramatic, they should be seen in the context of a rise in Shanghai of 135.54% in 2006."

Harriss pointed out to clients that the sell-off was mainly in A shares on the Shanghai stock exchange.

"We do not believe that China's stock markets are a barometer of China's economic well-being or otherwise, and certainly cannot be used to gauge global prospects," Harriss said. "This was a technical pullback."

He saw the sell-off as a chance to buy Hong Kong-listed stocks cheap. He remains fully invested.

"Head winds may come from higher inflation and higher interest rates. But while these may unnerve some investors, we do not expect this to affect the overall economy," Harriss added.

Virendra Singh, a senior economist for Moody's Economy.com, agrees. "The timing of a downturn is difficult to predict but it certainly is not now," he said in his company's Global Outlook.

"The most likely time is after the 2008 Olympics, which should bring an end to major government infrastructure projects and, along with it, a significant drop in fixed investment," Singh added.

Samantha Ho, manager of $60 million AIM China Fund, also remains upbeat on the country.

"China continues to offer high economic and earnings growth relative to other developed and emerging countries, and will continue to be a magnet for excess liquidity and fund inflows in 2007," she said. But she expects this year's returns to be tamer than last year's.

Healthy Correction

Ho and other fund managers see the sell-off as a healthy correction.

James Oberweis, who runs $437million Oberweis China Opportunities Fund, also sees opportunity. "I think this is purely psychological profit-taking. And there's been no change in China," he said. "There's certainly an opportunity for a patient investor to take advantage of these psychological swings."

Oberweis already was 15% in cash before the big crash because he felt stocks in the Shanghai composite index had become too expensive.

It was trading with a P-E ratio in the mid-40s, while the Hang Seng was trading in the mid-20s," he noted. "I think it should be traded close to the Hang Seng."

Institutional investors control only about 40% of the Shanghai market. It's volatile because individuals do most of the trading. They're more likely to buy stocks on rumors and speculation rather than fundamentals, Oberweis says. They tend to bid prices too high or drive them too low.

Copyright 2007 Investor's Business Daily, Inc.