Hedge funds struggling to gain foothold in Asia

Demand for experienced portfolio managers in Asia is increasing, claims Mark Francis, a recruitment consultant with headhunters Carrington Fox in Hong Kong, with event-driven strategies the current favourite.

“Our offices in New York and London are seeing a huge number of talented individuals with Asian connections who want to return,” says Mr Francis. Even with salaries starting at $200,000 for portfolio managers, significantly below what they can earn in the US or Europe, many traders are crossing the globe or moving back to their Asian roots to be part of a new and expanding alternatives marketplace.

Typically, as long as they have some experience trading Asian or global portfolios, they will be able to join either smaller, algorithmic trading shops setting up in Singapore, to take advantage of government incentives, or larger multi-strategy houses operating out of Hong Kong, he says.

There appears to be no shortage of innovative alternative players operating in Asia. One example is Cube Capital, a global $1.2 bn asset manager whose Hong Kong office runs a platform for investing in Greater China and other Asian markets with both dollar- and renminbi-denominated onshore products. The platform invests in special situations, distressed and credit strategies in the private markets throughout Greater China, and supports Cube’s direct and fund of hedge fund efforts globally.

Cube’s Onshore China ABL Fund, which focuses on non-performing asset-backed loans, is gaining increasing distribution power in Asia. It was recently approved by the private wealth management division of China Merchants Bank, the largest such operation in China. Cube’s Asian special-situations platform, which raised money from high net worth individuals, has focused on specific opportunities such as distressed Malaysian collateralised debt obligations and distressed property investments, including commercial premises in Vietnam and a Chinese cable car theme-park.

Currently, the group is seeing its best opportunities in Mongolia. Immediately after the crisis, Cube took advantage of huge price dislocations generated as property developers, seeking liquidity to address their debt problems with the banks, sold property portfolios “at crazy values”, says Thomas Holland, a Hong Kong-based partner with Cube Capital. Now, however, he says the opportunity is in the “enormous growth potential” of “a $5bn GDP economy sitting on over $1,300bn in commodity reserves”, a great deal of which are close to the Chinese border.

Investing in Chinese assets has proved particularly tricky due to the politicised nature of judicial decisions, says Mr Holland. “The priority of the state is social stability. While great strides have been made to open up the market, after the crisis there was a notable re-centralisation and courts became less commercial. There is no current focus on developing a market economy from the judges perspective.”

Cube Capital was also forced to introduce “side pocketing” after a heavy wave of post-crisis redemptions followed Cube’s positive performance run. Since then, many investors were turned off the type of illiquid investments which local groups are involved in, he says.

This is one reason why Asian investors, always looking for the comfort of a liquidity cushion and often wanting to make fast bets, appear reluctant to place money with local hedge funds, while strategic allocations from European and US institutions tend to be higher.

“Alternatives, in terms of pure hedge funds, are on the back foot,” states Arjuna Mahendran, head of Asian investment strategy at HSBC in Singapore, where clients are concerned by side pocketing, which restricted the opportunity to liquidate investments during the crisis. Poor performance since the crisis has also swung the investment pendulum towards long-only and exchange-traded funds.

“The case for hedge funds still needs to be made. There is still no groundswell of interest in them as alternative investments,” he says.

SPECIFIC REQUIREMENTS

Large institutional investors based in Asia can find it difficult to locate suitable underlying managers, according to Judith Posnikoff, one of the founders of US fund of funds group PAAMCO, which runs $10bn and has had a subsidiary in Singapore since 2006. “To meet the specifications of an institutional investor, you need good research and a proven operational infrastructure,” says Ms Posnikoff. “There are some quirks in Asia. You might have two brothers, where one is managing the portfolio and the other running the back office or a husband and wife team. That will raise some issues.”

Asian managers in particular are reporting a much stronger level of scepticism among clients considering investments. The “onboarding” process between a client visiting a fund and actually investing used to take three months before the crisis, but can now be closer to eight or nine months, due to the degree of due diligence undertaken, reports Goetz Eggelhoefer, portfolio manager at the Rohatyn Group in Singapore. “I can’t begin to tell you how many times I have been investigated by Kroll Associates looking for my skeletons, although they haven’t found any yet,” he says.

Bill Lu, president of Ortus Capital in Hong Kong and former head of China Operations at Tudor Investment Corporation, is also suspicious of the quality of some of the operations evolving in the region. “Some local managers don’t have a clue how to start things up. They have trading talents, they speak the local language, but can be weak on the business side. Many have not worked in large hedge funds.”

Other wealth management institutions such as Pictet see hedge funds as far more of a global asset class than the regionally-biased emerging market vehicles. “People want access to more global hedge funds for portfolio diversification,” says Bhaskar Laxminarayan, Asian chief investment officer at Pictet. “Unlike Asian equity and Asian high yield debt, they are not so keen on Asian hedge funds.”

Since many Asian private clients are taking long-term risks in their family businesses, they can be reluctant to subject their investments to similar constraints. “Our clients are taking private equity risk in their own companies, so they tend to be risk averse in their wealth management portfolios,” suggests Anurag Mahesh, head of global solutions for Apac at Deutsche Bank. “They are focusing more on currency diversification or credit opportunities.”

There are also certain intrinsic difficulties to investing with an alternative mindset in emerging markets, believes Mr Mahesh. “How do you short a stock in China? You can short some Hong Kong and Singapore-listed companies, but for alternatives to be successful, you need liquidity,” he says, advising potential clients that long-only investments are a much more efficient way to access Asian growth.

“Asia is a beta play for the next five years,” claims Mr Mahesh. “Alternatives will be more important after the market matures, but emerging markets have not reached that stage yet.”

The one alternative asset which most Asian clients are interested in appears to be raw materials. “They would prefer commodity allocations. These are a lot easier for most investors to understand,” says Mr Mahesh. “Asia is deficient in commodities as a region and rising prices bode ill for Asia, so if you invest in this asset class, it acts as a good hedge.”

Commodities are certainly suitable as part of an allocation to a commodities bucket, agrees Ivan Leung, chief investment strategist for Asia at JP Morgan Private Bank. But he warns that they cannot act as a real substitute for hedge funds, in the way many Asian investors are using them. “You can’t do 20 per cent of your portfolio in commodities as a substitute for other alternatives,” he says. “You need to be much more careful. So much money has gone into commodities in recent years that they are no longer a diversifier in a portfolio.”

There are simple ways to reduce or hedge risk and protect portfolios without actually getting involved in the complex world of hedge funds, believes Pictet’s Mr Laxminarayan. This can be done through a mixture of swaps, funds and “some limited use of structures”.

But the place of alternatives in high net worth portfolios needs to be seriously considered, believe some leading private bankers. “Wealthy individuals have been investing in alternatives for quite a long time. They are quite comfortable with this,” says Lim Say Boon, chief investment officer at DBS, Singapore’s homegrown bank. “As we move into the late cycle, probably past the mid-point in the bull market, alternatives will become more important as hedge funds with low correlations are going to be more important.”

However, investors need to be more discerning later in the economic cycle, he believes, as they begin to make serious allocations to alternative assets. An appetite for global hedge funds among Asian investors has been developed due to their size, liquidity and track record. “There is a view here that it is difficult to get out of Asian hedge funds,” says Mr Lim.

“Commodities and hedge funds are both under the broad umbrella of alternatives in our space. But over a short period of time, commodities might not behave as alternatives, as they are highly correlated to equities.”

Judith Posnikoff