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Hedge funds investing in the Greater China region are still reaping the benefits of the long China story and new funds are entering the market in droves. Sources say that the number of existing hedge funds has doubled in the region with total assets under management increasing by more than 100% in the past few years.

Rajeev Baddepudi, a senior analyst at Eurekahedge, estimates there are currently over 90 hedge funds investing in the Greater China region, managing some US$12 billion in total assets. These figures eclipse the 14 funds and US$184 million in assets reported by Eurekahedge in 2001, but is just a precursor of future asset inflow, according to Lou Gerken, founder of San Francisco-based Gerken Capital Associates.

Figure 1: The Growth of Greater China-focused Hedge Funds

“I don‘t think we’ve begun to see the tip of the iceberg in terms of the types of money flowing into emerging markets and China,” Gerken says. “Many hedge fund of funds are family offices that recently instituted an emerging market programme and they just can’t pick 30 managers overnight; it really takes several years to do that. So we’re going to see a lot more capital coming into the region.”

Regulators Warm to Foreign Investors

Baddepudi cites China’s strong economy and a government “pro-active about stimulating domestic demand, not to mention high M&A activity levels” as key reasons why hedge funds are flocking to it.

Simon Coxeter, co-founder and managing director of Singapore-based fund of funds shop AsiaSource Capital, echoes Baddepudi’s sentiments. “The regulatory environment in Hong Kong and Singapore has progressed markedly over the last five years, paving the way for new managers to base their operations in the region,” he says.

And while China has not yet created specific regulations covering hedge funds, Coxeter says there have been positive signs that Chinese regulators will take a practical and progressive approach to the industry. “At a recent investor conference in Shanghai, Fang Xinghai, deputy director-general for the Shanghai government’s office of financial services, welcomed offshore hedge funds setting up on the mainland,” he says.

Lights Out in Greater China

Regional long/short and multi-strategy managers to date have their investors clamouring for more Greater China exposure. The Eurekahedge Asia ex-Japan Hedge Fund Index advanced 3.1% in June and is up 17.8% this year. A trio of long/short and multi-strategy managers are on pace for stellar returns this year illustrating the region’s potential upside. Singapore-based Blackhorse Asset Management rode its long/short fund, Blackhorse Asia Fund, to a 17.67% return through June while UK-based Baring Asset Management’s Baring China Absolute Return Fund is up 24.19%, according to fund documents.

Also, Gerken Capital’s two-year-old multi-strat vehicle, GCA Greater China Fund, is up an estimated 30%. The firm partnered with Taiwan-based Polaris Investment Management to launch the fund in August 2005.

A Word to the Wise

“The China long story is very compelling in terms of equity long/short but we also have the skill set to adapt our portfolio very readily into fixed income, derivatives and FX markets,” says Gerken. “We have nine people in Shanghai and Shenzhen that are readily available to do this kind of research, and you have to have that footprint in the region if you want to demonstrate your ability to invest in more than just a large-cap long-only basis.”

And while there are many hedge funds vying for a slice of the Greater China pie, Gerken warns that firms without sufficient infrastructures and “institutional grade” management teams will not survive an eventual shakeout.

“There are a lot of shops out there with capable traders but they haven’t shored up their infrastructure to really keep pace with their AUM growth, and we think there will be a shakeout of those who don’t have the infrastructure to successfully run institutional grade teams. The optimal approach to insuring an optimal grade team is to partner with a very strong local partner,” he says.

Coxeter anticipates a number of new regionally-focused hedge fund launches before the end of the year, and suggests investors take the fund of funds route to Shangri La.

“Selecting funds in this space requires significant due diligence, particularly when differentiating between good asset gatherers and good investors. We have found that deep dives into a manager’s portfolio, combined with rigorous crosschecking, yields results.”

This article first appeared in Vol III Issue No 30 of FINalternatives.