Not since Japan's rise in the 1980s has the investing world been so attuned to Asia. China's torrid growth, India's tech boom and a revival in Japan are turning heads eastward again.

Capitalizing on Asian growth, however, remains a mystery to many U.S. market players. That's why

TheStreet.com

caught up with Mark Headley, president of Matthews International Capital, to get his views on the best way to invest in Asia.

Matthews runs seven Asia-focused mutual funds, including the $1 billion

(MACSX) - Get Report

Matthews Asian Growth and Income fund. The fund is up 10.83% this year, easily outpacing the 5.35% year-to-date gain in the MSCI EAFE international stock index. The fund returned 14.3% and 9% in 2001 and 2002, when nearly every stock index worldwide was in the red.

For now, Headley likes regional players, most notably financial and retailing stocks, that can take advantage of the growing middle class in Asia and especially China. He also says the sun will rise on Japanese companies again, now that they have embraced Chinese growth.

TSC

:

How do you choose companies for your portfolio?

Headley

: We like the domestically oriented companies. That has really been our bias. We love financials and consumer retail companies.

A good example is a company called

Giordano International

. We have held it forever, its sort of the

Gap

(GPS) - Get Report

of Asia. It is based in Hong Kong and has over 400 stores in China. It has a big, quality operation in Korea, and it's moving carefully into Japan. There are few opportunities to get a direct line to the pocketbook of the middle class in Asia, and this is one of them.

We have a profound belief there is growing middle class in Asia, and we want to find companies that are making their money off of that rising affluence rather than companies trying to fight it out in the DRAM or flat-panel markets. We have exposure to those companies, but their businesses are based on global, not regional, flows.

We have heard many times before that Japan has finally turned its economy around. Why is this time different?

Individual Japanese companies have been getting far more efficient. They have been paring off nonperforming assets and focusing on the most profitable divisions. They actually care about the bottom line now, which is very different for them.

Most recently, we have seen two very clear changes in corporate Japan. First, they are communicating much better with shareholders. We see a lot more Japanese executives visiting our offices, and the quality of media relations is going up rapidly. Second, and more importantly, Japan has really gotten off the bench in terms of China. For years Japan just prayed China would not work and it would all blow up. They were very fearful of China. Now they are running a trade surplus and making a fortune off China. They put their political differences aside and figured out that the Chinese love Japanese products in the end.

Do you recommend any Japanese stocks that American investors can buy over here as an ADR, or American depositary receipt?

We tend to play the domestic companies, so there are not a large number of ADRs to recommend. We do own

NTT DoCoMo

(DCM)

, which has some fabulous cell-phone technology. But management has struggled, and the stock has performed abysmally. It's now a beat-up value stock. That's one way to get exposure, but otherwise there are very few liquid ADRs. Investors might want to check out the

iShares MSCI Japan Index

(EWJ) - Get Report

exchange-traded fund if they are looking for a Japanese index, but we are off benchmark.

Your funds are heavy on South Korean, Hong Kong and Thai companies. What is it about these countries that gives you such confidence?

To bend a phrase, those are the axis of recovery for us. We really came out of the Asian crisis beaten up and brutalized by the markets, but we always saw Hong Kong as a bastion of good corporate governance and home to some of the best regionally oriented companies. It's really a place where you can get China exposure without taking on excess China-related risk.

Korea was the worst economy in Asia before the crisis but eventually had the biggest epiphany that free markets and foreign investment are not evil. Korea has the most overhauled financial system in Asia. It's been extremely volatile but looks cheap now with a good long-term future.

Thailand is the emerging market in Southeast Asia. The economy makes sense to us, and there are a few good companies. Furthermore, we really didn't like Malaysia and Indonesia. Singapore is kind of boring, so Thailand became our chosen place for Southeast Asia exposure.

If you had to choose a sleeper country in Asia, one that's set to surprise the global economy, which would it be?

I'll give you two. Japan is going to continue to surprise even though everybody is getting pessimistic about them now because they have a reputation, not exactly deserved, for falling on their face. I don't know what the next 12 months will bring, but five years from now Japan will have been a very good place to put your money.

Indonesia is the opposite extreme. The country has enormous natural resources and is a functioning democracy. I think it can get back on its feet, the valuations are cheap, and there are some good companies there to invest in. The main thing is that it's not really tied to the global markets yet. No matter what happens elsewhere in the world, they can still get themselves together. Japan is still tied to the American consumer while Indonesia is still on its own orbit.

Outsourcing jobs to India has been a heated topic on the campaign trail. How does India play into your investment philosophy?

India is one of the most complicated countries on the planet, and that's why we have always preferred the Chinese story. China has been a country for 3,000 years and is 90% Han Chinese. India on the other hand is incredibly varied and complicated. It's really six or seven countries strung together that operate on their own methods. There is no one, true India.

But clearly the software companies in Bangalore have done amazing things. The pharmaceutical companies in Bombay have built market share in the generics and the country is slowly getting freed from the mountain of red tape that strangled it in the postcolonial era. The massive government bureaucracy that was put in place after World War II has been cut back. And Indian ex-pats in Silicon Valley are now putting their money back into India. That is something that was not happening before.

Will China's economy be able to maintain its torrid pace?

China is regaining its role as the economic epicenter of Asia. It's still obviously a smaller economy than Japan's, but it's changing so quickly and it is gaining real domestic heft. For example, the number of cell phones sold in China is stupendous. You now have over 200 million people with cell phones there, and those numbers keep expanding with the domestic economy. And that's what Asia needs. Countries like Korea, Thailand, Malaysia and Singapore are not big enough to have self-generating economies. They live a lot off exports, whereas China -- and India further down the road -- can have huge domestic economies where companies all across Asia can establish profitable businesses.

There has been some backlash against the wave of Chinese imports, however. Is this an issue to be concerned about?

I think that it is very hard to ask the American consumer to pay $1,000 for a couch instead of $500 for a couch because we want to keep these jobs in the U.S. France makes that decision, and the question is, do we want to be like France?

It is a definitely a problem, though. We are losing low-end jobs. But on the other hand, a trade war with China would be catastrophic. The key is to replace those lost jobs with higher-end ones. If you go the path of a protectionist economy, you will lose your edge. You will not have the next

Dell

(DELL) - Get Report

in the U.S.; it will come from someplace else.

IBM

(IBM) - Get Report

will move offshore. Capital will leave, and you will lose the jobs anyway.

OK, let's get down to it. Who is better for Asian stocks, Bush or Kerry?

Bush made some mistakes in office. However dishonest North Korea was, he probably should not have taunted them. We all know they are a little crazy, but we should have tried to get them out of the bunkers. They were making moves towards a market economy and suddenly it became far too confrontational.

He also used too much of the Cold War mentality when it came to Taiwan, which is another explosive situation. But Bush has come back from that, and neither candidate has a really different economic world view. The things Kerry says are more like an outsider trying to get votes than really having a different picture as to how the economy should function.