Invest when everyone is sceptical

Companies which detracted from RENN Universal Growth's performance include Duoyan Printing, after it dismissed its auditor and Orient Paper. Fushu Copperweld's share price fell but due to the sector sell off rather than any fraud accusations.

But Mr Cleveland believes that when the current controversy passes - US-listed Chinese companies will be highly profitable. "Many people are saying China will slow but I would liken it to the US in 1911, with a high savings rate and low debt," he says.

"The idea that all companies are implicated is total nonsense and at some point reasonableness will prevail," he says. "We can increase this trust’s NAV by between 50 and 100 per cent over the next several years."

Mr Cleveland says many rumours have been spread by short sellers looking to profit from the price falls of US listed Chinese companies, but the allegations do not concern 90 per cent of them, and many have proved false.

He adds that some of the accusations relate to accounting problems rather than fraud, reflecting different accounting systems in the US and China, or late filing. "These companies are now taking extreme measures to ensure their accounting is correct," says Mr Cleveland. "Orient Paper has spent millions of dollars with external accountants and attorneys successfully refuting the charges of their accusers."

Despite the trust also performing badly over three and five years - since it decided to invest in Chinese listed US companies, Mr Cleveland maintains his optimistic stance. He points out that RENN Universal Growth's portfolio will deviate substantially from its benchmark, and over the short-term performance will often diverge from it. "Returns in this fund will be lumpy because of its unique asset allocation and investment style."

Since the trust launched in 1996 its NAV return in sterling has been 245.87 per cent against 187.84 for the Russell 2000 and 142.28 for the S&P 500.

Opportunity knocks

Not only does Mr Cleveland argue the allegations are unwarranted, he thinks it has created a buying opportunity. "Some of these companies are trading at one or two times earnings. We have never had that kind of opportunity before."

He has added to his holding in technology company SinoHub, where sales have risen from $70m to $200m in the past three years, and which expects $250m sales for 2011. Its share price has fallen from a high of $5 to $1.75, just over 2x 2010 earnings per share of $0.67.

Three new Chinese companies have also been added to the portfolio: China Jo-Jo Drug Stores, software developer Kingtone Wirelessinfo Solution and Plastec Technologies which makes plastics for home electronics.

"I think we are going to look back on this period and realise that if you did your homework there was a lot of money to be made," says Mr Cleveland.

Due diligence on Chinese companies includes visiting their plants and building a good relationship with the owners and managers. "This does not guarantee that fraud will be eliminated but it gives us an idea about the company," he says. "I also rely on the accounting statements. I could be wrong about these but when I hold companies which are on one or two times earnings they are one hell of an opportunity. It is an imperfect world but that is why you have a portfolio: if one stock goes down you can take the loss. The risk-reward profile of these companies is very favourable, and a good time to invest is when everyone is sceptical."

Although Mr Cleveland largely chooses companies on their merits rather than by sector, he gets investment ideas by looking at "the big picture". An example is infrastructure development in China, leading him to companies such as Hollysys Automation Technologies which makes control systems for companies in areas such as power generation and railways, and Johnson Controls of China.

One of the reasons he was initially attracted to Chinese companies listed in the US is because the investment trust focuses on companies run by successful entrepreneurs. Criteria he looks for include:a significant management stake in the business; a clear vision for growth, already profitable companies and those selling at a reasonable price.

Aside from the recent additions, Mr Cleveland does not plan to increase the allocation to Chinese companies which is currently about 30 per cent of assets. He has also sold and taken profits on some Chinese companies recently, such as Zhongpin. "This was not because of fraud but because we anticipated it would be short sold," he said. "I think that 30 per cent is a good level and our other positions are going up too. In the US there is no end of people doing new and clever things, the key is to make sure they start to make money. US opportunities are not going away, it is just that the rest of the world is growing better."