Investors flee Japan hedge funds, prompting shake-up

Date: Tuesday, February 5, 2008
Author: Alison Tudor, Reuters.com

TOKYO (Reuters) - Investors pulled $7.7 billion out of laggard Japanese hedge funds last year, more than a fifth of their investments, prompting a shake-up of the industry and draining the faltering economy of prized foreign capital.

The Japanese hedge fund industry has been the pariah of the asset class after two years of losses, and has shrunk to $24 billion. By contrast, funds in China and India have been raking in investors' cash and enjoying strong returns, helped by booming economies and soaring stock markets.

Some Japanese hedge funds are responding by closing shop, adopting a pan-Asian strategy, or cutting management fees in a last ditch attempt to stem the flow of capital.

"Folks are panicking about their ability to make money in Japan, and are looking to incorporate Asia into their portfolio," said Edward Rogers, of Rogers Investment Advisors, which advises a fund of Japanese hedge funds and is up 6 percent in 15 months.

Goldman Sachs is among the latest to join the exodus from Japan. The Wall Street powerhouse told Reuters it has closed a fund of hedge funds, GS Strategic Japan Partners, which invested in Japanese funds. Financial sources said it closed the fund after a run of losses and investor redemptions.

"Japanese fund managers acknowledge their performance has not been very good, resulting in redemptions," said Hideki Hashiguchi, lead representative of HSBC Global Fund Services Ltd.

The flight of capital is a blow to the Tokyo Stock Exchange, whose head, Atsushi Saito, has been campaigning to attract more foreign investment in order to maintain the bourse's standing as one of the world's biggest markets, particularly against growing Asian competitors such as Singapore and Shanghai.

Japanese hedge funds lost a combined $10.9 billion in 2007, through poor performance and after $7.7 billion of investor redemptions, according to industry data provider Eurekahedge.

Including $22.4 billion of new money, Asian hedge funds outside Japan grew by $35 billion to $101 billion last year, Eurekahedge said.

Hedge funds report to data providers on a voluntary basis, so these figures may not fully reflect the state of the industry. Rogers estimated the outflow of capital from Japanese funds at closer to $20 billion.

COMING UP SHORT

Japanese hedge funds underperformed their global peers partly because the Tokyo Stock Exchange was one of the few developed markets to drop last year, shedding 12.8 percent. But the common long-short hedge fund's key selling point is that it is supposed to be able to make money in both falling and rising markets.

Among the worst performers in 2007 was the Dejima Fund, which is highly geared to the Japanese equity market. It is run by London-based Stratton Street Capital LLP, which said the fund was down 42 percent.

Some of the largest Japan-focused hedge funds also posted losses, with U.S.-headquartered Whitney & Co's Japan Select Investors Fund losing 7.5 percent in 2007. A long-short hedge fund run by Sparx Group Co Ltd's fell 12 percent last year, a source who tracks the industry said. The funds did not respond to enquiries.

The often secretive industry is under no obligation to disclose performance except to clients.

Investors complain that Japanese hedge fund managers do not short effectively. Those that do short have a stubborn adherence to selling blue-chip stocks short and going long on smaller, less liquid companies. For the past two years, Japanese small-cap stocks have underperformed blue chips.

Lipper, a Reuters company, estimates that Japanese long-short equity hedge funds lost 0.08 percent last year while a benchmark index for the global $1.73 trillion hedge fund industry was up 12.6 percent.

Losses have taken their toll and some managers have given up.

"Japan long/short equity managers have closed shop for a variety of reasons, most notable being the slow, steady negative performance attained each month, which has caused some managers to question the economics of the business," said Ferenc Sanderson, senior research analyst at Lipper.

Lipper estimates that the rate of closures among Japan long/short equity funds jumped to more than 13 percent in 2007. By comparison, the average global industry attrition rate since 1994 is 9 percent.

Hedge funds are also cutting fees to keep capital. The funds advised by Rogers Investment Advisors, for instance, are now paying a weighted average of about a 1.5 percent management fee to managers, below the industry standard of 2 percent.

LURE OF ASIA

Some hedge fund managers are trying to hold onto their cash by looking beyond Japan to the faster-growing economies of Asia.

"We see a lot of previously pure Japan funds wanting to rebrand themselves and adopt a more pan-Asian focus," said Mark Pink, managing director and founder of TMJ NetSearch, which recruits for hedge funds and other financial firms.

Some prestigious funds made the switch in the past, such as Penta Investment Advisers, which is run by a former Soros Fund Management trader, John Zwaanstra. Others are trying to catch up.

"There has been a tremendous outflow of money and some managers are giving up on Japan; we see this as a sign that we are close to the bottom. The managers that are going into Asia right now are going to the party one year too late," said Rogers.