Asset manager says China’s ‘extreme valuations’ look ideal for stock picking

Upping your exposure to Chinese stocks is worth the risk.

That’s the view of Caroline Cai, CEO of U.S.-based Pzena Investment Management. “This is really for the first time in the last seven, eight years where we think you’re getting paid to expose yourself to China,” Cai told “CNBC Squawk Box Asia” this week.

The investment firm has ramped up its exposure to Chinese equities in the last two years. For Cai, the opportunities in China are exciting.

“It’s not because we have a particularly positive view on longer term Chinese macro, we kind of think things are pretty challenging. What we’re attracted to is the extreme valuation that we’re seeing in China, where people are basically saying there’s no price at which you can entice me to invest in China,” she said.

“Our view is, if the risk is obvious to everyone, at least you’re getting paid to take some exposure,” she added.

Others have noted a more cautious approach. In early October, Adam Coons of Winthrop Capital Management told CNBC’s “Street Signs Asia” that he’s waiting “a little bit longer” before re-entering the Chinese market, due to his concerns about a possible short-term reversal in the stock market.

China has announced the introduction of various measures aimed at boosting its fading economic growth in recent months. In September, the People’s Bank of China announced a slate of support such as reducing the amount of cash banks are required to have on hand.

Just a few days later, China’s top leaders said they were aiming to put a halt to the slump in the property sector, saying its decline needed to be stopped and a recovery needed to be encouraged.

More recently, China on Friday announced a five-year package totaling 10 trillion yuan ($1.4 trillion) to tackle local government debt problems, while signaling more economic support would come next year.

Chinese stocks have jumped since late September on the promise, and announcements, of stimulus, with the CSI 300 index now up 20% year-to-date.

Japan has also been popular for global funds this year, despite monetary and political uncertainty. Prime Minister Shigeru Ishiba was re-elected on Monday despite his ruling Liberal Democratic Party (LDP) suffering its worst election loss in more than a decade last month.

For Cai, the “small-cap end” is of particular interest, compared to Pzena’s “limited exposure” to more capitalized firms like banks.

“We think the valuations [for large-caps] are not really justified by the underlying fundamentals,” she said.

“You look at the Japanese banks, for example, they generate lower ROEs [return on equity] versus the European banks — but they trade at higher multiples, versus the European banks,” said Cai.

“A lot of what can go right has already been priced in,” she said, factoring in the assumption that Japanese interest rates could rise 50-100 basis points.

“On the other hand, if you look at what’s happened to small cap Japanese companies, in theory, these are the one where the changes, the improvements in corporate governance and the improvement in the domestic economy may have the most impact on longer-term outcomes.”

—CNBC’s Sophie Kiderlin and Evelyn Cheng contributed to this article.