Anthony Bolton, one of Britain's best-known fund managers, said policing rogue executives was a far bigger task in China than in the West, as News Corporation's phone-hacking scandal thrusts corporate governance standards back into the spotlight.
Bolton, who now runs the Fidelity China Special Situations Fund from Hong Kong after decades of investing in the UK, told Reuters deciding whether Chinese company executives and accounts told you the whole story was a real challenge.
In the West, maybe 1 percent of companies have integrity problems or you can't take what the management tell you as being the reality. In China...it's significantly bigger, Bolton said in a telephone interview on Wednesday.
Pension funds and stock investors were handed a salutary reminder of the costs of lax corporate governance this week after shares in Rupert Murdoch's News Corp tumbled more than 10 percent following claims reporters at its UK arm had raided the voicemails of murder victims and politicians for stories.
British shareholder advisory group Pirc has also questioned the legitimacy of the Murdoch family influence on British Sky Broadcasting -- the satellite television network in which it owns a 40 percent stake.
But Bolton said corporate governance problems were far tougher to identify in China, hurting the performance of a slew of Chinese firms.
Bolton, who led Fidelity's flagship Special Situations fund for 28 years before moving to Asia to launch a new fund, said meetings with company managements were often an unreliable gauge of governance quality.
His team cross-check company claims against those of competitors and suppliers, and in some cases use independent due diligence firms for some extra digging, though he acknowledges he may still be caught out.
We won't avoid everyone but I think we will hopefully avoid a number of them, he said of companies with integrity or governance issues.
If they come in selling a Chinese medicine product that is unique to China and is not sold anywhere else in the world it's going to take a lot more persuading and generally I won't invest.
Bolton's comments come a day after ratings agency Moody's flagged accounting and governance risks at dozens of small Chinese companies, while last month billionaire John Paulson sold his stake in forestry company Sino-Forest after accusations it had exaggerated the size of its forestry assets.
Bolton believes Chinese policymakers will successfully steer the Chinese economy to lower growth, even as Federal Reserve Chairman Ben Bernanke tries to convince a stubborn Congress to raise the U.S. debt ceiling, where China invests much of its $3 trillion in reserves.
China wants to temper its fast-growing economy and lower annual growth toward 7 percent. Its economy rose a faster-than-expected 9.5 percent in the second quarter, data on Wednesday showed, likely to harden Beijing's resolve to curb inflation.
Actually that is good news and the sooner it gets back down and they relax the tightening the better -- and of course markets will anticipate this, he said, referring to the government's efforts to slow the economy down.
The industry veteran is the first to admit performance in his fund, which posted maiden full-year results in June, has been disappointing.
But with the Chinese government keen to boost domestic consumption and shake off its reliance on a weak world economy, Bolton is snapping up the same sorts of consumer and service business models he would have once bought in Britain.
My reading is I think they (Chinese policymakers) got quite a shock. I don't think they realised how dependent because of their export model they were on the rest of the world and particularly America, Bolton said.
Really, the Chinese are trying to make themselves more self-reliant, he said.
This will boost growth companies in finance, retail, healthcare and tourism, Bolton claims, which should support his fund's structurally underweight position in export-oriented firms.
Among his top picks are China Unicom, the country's no. 2 mobile operator, and insurer Ping Ang.
The fund's net asset value dropped more than 5 percent since it launched in April 2010 to June 17, 2011, while the benchmark MSCI China Index has remained broadly unchanged during a volatile period for Chinese equities.
Fidelity's Special Situations Fund had net assets of 683.9 million pounds ($1,096,291,700) in late June. ($1 = 0.624 British Pounds)
(Editing by Sinead Cruise and Hans-Juergen Peters)