What’s so compelling about Asia right now?

The middle class in Asia has been rapidly expanding over the past two decades. And on an absolute basis, it will continue to grow. The economic impact will be in areas such as financial services (insurance, banking and investments) as well as consumer goods.

Another ongoing theme is infrastructure, which continues to lag the developed world. China, India and Indonesia all need to invest a lot more in infrastructure. Some people argue that China has been overspending on fixed-asset investment. But in China’s major cities, such as Beijing and Shanghai, the subways are packed, the roads are jammed with traffic, and the quality of infrastructure is still way behind the developed world.

India is probably 20 to 30 years behind China when it comes to infrastructure. And other nations such as Indonesia, with over 200 million people, as well as the Philippines, with close to 100 million people, will also require a lot of new investment.

What factors are driving middle class growth?

The first is global rebalancing. Labor costs in Asia are still relatively cheap so the region continues to attract new production.

Secondly, the quality of the Asian workforce continues to improve. More people than ever are attending college. In 1993, I was one of only about 700,000 students graduating from college in China. This year, there will be 10 times as many Chinese college graduates, some 7 million people.

Will the growth of the middle class slow down along with the Chinese economy?

I don’t think so. The recent slowdown in China was mainly due to slowing fixed-asset investment. Exports have also slowed because of the problems in Europe. But domestic consumption has been very strong, with no signs of abating.

China’s labor force is no longer growing, but its productivity is improving. There’s actually a shortage of labor, causing wages to rise. In 2012, for example, real household income grew 9.4 percent. This should continue for at least another decade, pulling more people into the middle class.

There’s talk of China transitioning away from an exported-focused economy. How will that play out?

I think it’s a misperception that China’s economy is export-driven. Only about 10 percent to 15 percent of the country’s growth is derived from exports.

The two major forces driving growth in China are (1) domestic investment and (2) consumption. During fourth-quarter 2012, investment actually dropped below 50 percent of gross domestic product (GDP). Over the next decade, investment will continue to slow, as export growth drops from 20 percent annually over the past 20 years, to less than half that rate.

But I think most of the pain caused by this shift has already been felt during the past three years. Going forward, consumption will continue to rise—in the mid-teens annually—eventually accounting for two-thirds of GDP growth within the next decade.

What impact will domestic political reforms have on the economy in the coming years?

The less the government is involved in setting policy, the better. I’ve noticed that Internet chat rooms have become more liberal since the new leadership took over in November 2012.

While there’s still a lot of censorship, it seems much more relaxed than before. The Communist Party will be in serious trouble if it doesn’t implement at least some reforms over the next decade. But I don’t know how quickly it will act.

Can you talk about some of the other countries in the region?

Investors should be able to generate good returns from most other Asian countries in the coming decade because of very positive demographic trends: young consumers who are hitting the peak of their earning power.

Due to its one-child policy, China’s got a big problem as its population ages. But in Vietnam, Indonesia, and the Philippines, the median age is really young. Their populations are relatively well educated, and their incomes are rising.

In the past, a transition in political leadership in these countries would typically stall growth for a couple years. But their political situations have largely stabilized, allowing for strong economic growth. As a result, these countries have outperformed the region in the past five years in terms of economic growth and stock market performance.

Most of these emerging market stocks are now pretty fairly valued. Going forward, I think returns will be more driven by earnings growth than multiple expansions. By comparison, China’s valuations are really cheap, due to underperformance over the last several years.

What kind of impact will technology have on these countries’ economies? Different countries are at different technological stages. Korea is near the top of the technology chain, with global leaders such as Samsung Electronics Co (Korea: 005930) and LG Display Co (NYSE: LPL), as well as the best technology in shipbuilding.

Countries like Indonesia are still way behind in terms of manufacturing, where it has a lot to learn. India, on the other hand, has some of the best information technology (IT) outsourcing companies, such as Infosys (NYSE: INFY) and Tata Consultancy Services (India: TCS). But it lags in light industrial manufacturing.

What are some pitfalls to investing in the region?

Asian investors don’t have a strong equity culture; they tend to think of the stock market as a shortterm trading opportunity. That’s why you see foreign investors from the US and Europe playing such an important role. But when there’s the slightest hint of trouble, most foreigners sell. This creates a lot of volatility since there isn’t a stabilizing domestic investor base.

Another pitfall is that there are a lot of smaller Asian companies whose financials you can’t really trust. You have to do a lot of homework and really crunch the numbers to get comfortable enough to invest.

What are some of your favorite companies in the region?

My top holding now is Galaxy Entertainment Group (Hong Kong: 0027), a casino operator in Macau. The emerging Chinese middle class all want to gamble, which is a bad habit that’s still quite prevalent.

Over the last 10 years, Macau has grown from one-fifth the size of Las Vegas to several times its size, with gambling revenue seven times larger. This growth should continue for a couple more years.

Macau is a highly regulated and well-developed market, which minimizes risk. Galaxy’s shares also have good liquidity, so you can trade in and out of them pretty easily.

I also own several Chinese banks, such as China Minsheng Banking Corp (Hong Kong: 1988), one of the largest non-state owned banks in China. I really like it because it is owned and managed by Chinese entrepreneurs whose interests are firmly aligned with shareholders. It’s highly efficient, generating returns on equity of close to 24 percent, and it has been growing more than 30 percent annually for many years.

Unlike state-owned banks, this bank has managed credit risk quite well over the past 10 years. We believe these privately managed banks will continue to take market share from the state-owned banks thanks to their greater efficiency and market- driven approach. By contrast, the chairmen of state-owned banks are less concerned with operations and more focused on political promotions.

Another company we own is AIA Group (Hong Kong: 1299), which used to be American International Group’s (NYSE: AIG) Asian insurance business. This well-managed company is one of the best you can buy in all of the emerging markets. It’s very efficient and has performed quite well since being spun off. It has expanded its presence across the region, and its valuation is still very reasonable.