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Hedge funds take a punt on Asia

Finance Blogger: Anthony Harrington Anthony Harrington

The second quarter of 2010 has proved something of a disaster for the hedge fund sector, with May and June both recording declines in funds under management, according to the Index maintained by market analyst Hedge Fund Research (HFR). However in early August HFR announced [PDF, 17 KB] that expectations that the Chinese Government might be taking a more relaxed attitude to allowing the Chinese currency, the Yuan, to appreciate, had created something of a rush of investor money into Asian hedge funds.

According to HRI:

"Hedge fund investors developed a central focus on Chinese foreign exchange policy in 2Q10, as the Chinese central bank took steps toward increased flexibility of its currency policy. In anticipation of this, investors allocated over $360 million in new capital to Asian hedge funds, reversing the net asset outflow in 1Q10."

This good news was a little soured by the fact that performance losses by Asian hedge funds meant that the total capital invested in these funds continued to decline, since the losses were larger than the capital inflows. Total capital invested in these funds now stands at $74.4 billion.

According to HRI’s President, Kenneth Heinz, the new capital went into a broad spread of hedge funds investing in everything from event driven strategies to arbitrage funds right across the Asian sector, including developing and developed Asian economies. Those funds that performed best through the quarter, he said, were equity focused funds.

This fund segment saw its value improve by $1.7 billion through Q2. This compares very well against the performance of equity hedge funds for developed Western markets, which saw a performance based decline of $23 billion through Q2 as markets retreated from their earlier high points. One significant point though is that while there has been a strong reaction against highly leveraged hedge funds in Europe and the US, Asian hedge funds routinely continue to employ high levels of leverage, with some funds leveraging capital by ten times.

There is, of course, nothing wrong in a fund being leveraged if the investor understands that that is the position. The worry is that a fund that is performing no better than the market average can look as if it is outperforming other investment options massively by leveraging that average return. What the investor is actually getting in those circumstances is no more than average asset management skills accompanied by substantially higher levels of risk through leverage (since leverage magnifies both positive and negative returns). In general when investors invest in specialist hedge funds they tend to expect higher levels of performance since they will be paying higher levels of fees than they would in a traditional fund. Leveraging is simply borrowing and anyone can borrow. Not everyone can manage assets to generate returns significantly above the market average.

That said, the trend of risk capital flowing towards Asian equities rather than European equities looks unstoppable given the current circumstances, with Asia growing and European economies struggling with fiscal austerity programmes. A recent IMF report on Asia takes as its cornerstone the fact that the IMF expects Asia to be the world’s largest economic region by 2030. As the report’s author Anoop Singh notes, while China and India are leading the way, many other Asian economies are helping to drive Asia forward.

"Based on expected trends, within five years Asia’s economy (including Australia and New Zealand) will be about 50 percent larger than it is today (in purchasing-power-parity terms), account for more than a third of global output, and be comparable in size to the economies of the United States and Europe. By 2030, Asian gross domestic product (GDP) will exceed that of the Group of Seven major industrial economies (G-7)”

With a number of economies pushing onwards, intra Asian trade is already an important phenomenon and is going to be ever more important to the region. That too, will help to push Asian equity markets onwards and upwards.

Further reading on Asian growth and opportunities


Tags: Asia , EU , hedge funds , IMF , international differences , stocks and shares
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