Asia's hedge funds wither on the vine as money flows shift

HONG KONG Tue Nov 13, 2012 10:57am GMT

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HONG KONG (Reuters) - The Asia hedge fund run by Howard Wong and Rajesh Ranganathan has produced returns nearly four times better than its peers this year, with an experienced team that over the last decade has notched up some of the industry's best performance numbers.

And yet, Doric Capital is struggling to drum up interest in its $44 million fund, forcing one of Asia's oldest hedge funds to give up its office overlooking the Hong Kong governor's mansion for much smaller, humbler digs as it cuts costs.

"We have done our job well," Ranganathan, 37, declared as guests sipped sangria at an office-warming party. "We are now waiting for the investors to come."

He may have a long wait.

Investors are largely avoiding Asia's fledgling hedge fund sector, in part because of mediocre returns at many funds as they grapple with slowing economies and market volatility.

But even solid outperformers like Doric cannot get large institutions to commit money and are trapped in a Catch-22: They are mostly too small to attract the big players, but need big investors to grow to a decent size.

More than 70 Asia hedge funds have shut down this year and more are heading toward oblivion, steadily withering in the drought of investor interest. As they do, billions of dollars in business for the region's bankers and bourses are at risk.

Asia's hedge funds are now managing just $144 billion, a nearly 30 percent drop from 2007, estimates from industry tracker AsiaHedge show. Outside of Asia, however, more than 8,000 funds are managing a record $2 trillion-plus, up from about $1.8 trillion.

"From an asset allocator point of view, I think more and more hedge funds locally are becoming uninvestable," said Ronnie Wu, chief investment officer at Gottex Penjing Asset Management.

A regional exodus will be a particular blow to prime brokers that clear trades and make loans to funds, including Goldman Sachs Group Inc (GS.N), Morgan Stanley (MS.N) and Credit Suisse Group AG (CSGN.VX), ranked Asia's top three prime brokers by AsiaHedge.

The problems began in the wreckage of the post-Lehman financial crisis, and have snowballed since.

After 2008, wealthy individuals and family offices moved their money away from hedge funds to safer vehicles. Funds of hedge funds, which allocate money to hedge fund and private equity firms, were crushed by the crisis as big investors began to cut out costly middlemen.

The result was a double-whammy for small and mid-sized players that make up the bulk of Asia's 1,000 or so hedge funds.

Not only did their traditional sources of investment funds dry up, but because of their size they are shunned by pension funds and endowments, which have taken over as the industry's primary source of capital. These types of institutional investors prefer to put their money with larger players.

This funding crunch is unique to Asia, where the hedge fund market is smaller and less mature. Despite interest in the region, institutional investors in the West are tending to stick with familiar markets closer to home.

"U.S. investors want to invest more in Asia, but until Asian hedge funds get bigger, they can't," said Edward Moon, chief investment officer of Woori Absolute Partners, a fund of hedge funds. "Something has got to give."

FROM MEDICINE TO FINANCE

The proportion of Asia hedge funds with less then $20 million to manage has jumped to 42 percent from 29 percent at the end of 2007 and is at the highest level since research firm Eurekahedge started compiling data six years ago.

A hedge fund must have a minimum of $200 million dollars under management to attract capital from institutional investors, according to hedge fund managers and investors interviewed for this story. On that premise, 86 percent of Asian hedge funds would not make the cut, data show.

One such fund was run by Allan Bedwick, a 47-year-old American who has worked in Asia for more than half his life. After earning a medical degree he opted instead for finance, and started his hedge fund in 2009 with $15 million.

Often working more than 15 hours a day, he built a portfolio that earned a 9 percent annual return since launch, nearly twice what his peers were making.

The fund grew to manage $150 million and yet he couldn't find enough investors to get him to that $200 million magic number and beyond. In the end, he shut the fund down.

"If you can't get there within a couple of years, you are destined to remain small or give up," said Bedwick. "Performance alone does not bring AUM (assets under management) growth."

A handful of Asia spinouts from investment banks and global hedge funds have managed to raise hundreds of millions of dollars in the past two years even in a shaky economic climate. But they are too few, and lack the track record, to rescue an industry that remains about $50 billion below its peak assets.

Part of the decline reflects poor performance at many Asian hedge funds in the post-Lehman environment, often outdone not only by their U.S. and European peers but even by mutual funds and stock indexes in their own region. While Asian equities markets are up by double digits this year, three in 10 regional hedge funds have put in a negative performance, Eurekahedge data shows. They also face relatively high costs and low fees.

But what is driving the nail in the coffin for a large swathe of the industry - as well as the eco-system of banks, consultants and lawyers that supports it - is the vicious cycle in which smaller players cannot attract investment even if they put in a stellar performance.

SMALL WONDER

Institutions such as pension funds and endowments, now the life blood of the industry, allocate up to 60 percent of the money that is invested in hedge funds globally, a Citigroup survey found. In 2003, their share was just 25 percent.

They generally invest $50 million to $100 million in a hedge fund and are barred by their own rules from making up more than 10 percent of a fund's assets. So even with a solid performance, a small fund will get overlooked. And the longer they are overlooked, the harder it gets to find investors.

"People come along and look at them and say: 'You have been in business for three years, you have got good numbers but you haven't got any money. There must be something wrong with you,'" Judith Posnikoff, a managing director at fund of hedge funds PAAMCO, said at SkyBridge conference last month in Singapore.

A net $800 million has flowed out of Asia hedge funds this year, starving the sector of capital, and at least 73 funds have shut down, according to data from Eurekahedge.

That is bad news for banks that support the industry in Asia, which can earn more than $100 million a year for their services. Barclays Plc (BARC.L), HSBC Holdings Plc (HSBA.L), BNP Paribas SA (BNPP.PA), Royal Bank of Scotland Group Plc (RBS.L) and JPMorgan Chase & Co (JPM.N), are building up their prime broking businesses in Asia, just as things are getting tight.

The funds' absence will also be felt with reduced liquidity and lower trading volumes on Asia's bourses.

The value of shares traded in Asia Pacific in the first nine months of the year has fallen by about one-fourth from a year ago, World Federation of Exchanges data shows, due in part to a sluggish global economy that has made investors cautious. A shrinking hedge funds industry in Asia will make that worse.

One hedge fund manager who is still holding on is Joseph Oyaski, whose MNJ Capital Asia fund has made money every year since launching in 2005.

Its 10 percent-plus annual gains have come with rare consistency, and with six years under his belt, it's too long a track record to assume the 47-year-old is just plain lucky.

But the fund is stuck at about $50 million in size. After reaching out to 1,000 potential investors across the world, only a few have responded with investments.

"We have the return and volatility profile," said the U.S.-born former proprietary trader at UFJ International, lamenting the lack of interest from large institutions. "They typically have a minimum ticket size."

(Editing by Michael Flaherty and Edmund Klamann)

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