Doing business in the United States is a lot different from doing business in Asia,” says Hong Kong native Chris Tam, co-founder of Future Gate Consultants Limited, a three-year-old Hong-Kong-based Commodity Trading Advisor (CTA). “The performance trends, however, are the same as they are anywhere.”
The performance trends he’s referring to are the ones we see every time the economy hits a slippery patch; that’s when all kinds of markets go in all kinds of directions, and CTAs (who tend to be diversified in all kinds of sectors and from both directions) shine.
Conventional money managers, on the other hand, tend to be in equities and often long, while so-called “alternative investment” managers tend to be in vehicles that freeze up in times of crisis. As a result, both often shine when the sun is out, but turn to dust in an eclipse.
CTAs, on the other hand, tend to have positions in everything from soybeans to S&Ps — markets that are not only diverse, but liquid. They’re often wallflowers in the springtime, but rock stars in the apocalypse.
For evidence, flip through the latest asset flows update from Singapore-based data provider and research firm Eurekahedge. It shows that money managers following CTA-type strategies were the only alternative investment strategy group to make money on the whole in the last quarter of 2008.
“There’s certainly underlying skill involved, but the markets have simply been more conducive to CTAs than to other strategic mandates,” says Eurekahedge Senior Analyst Rajeev Baddepudi. “If you look at our managed futures index, it finished up about 15% on the year, which is an impressive thing to say for 2008.”
Vincent Wong, who runs Hong Kong based Vegasoul Capital Management, says many Asian investors are just learning to distinguish between managed futures and other so-called “alternative investments.”
“Most hedge funds in Asia are long-short equity guys,” he says. “There have been so many of them popping up the last few years, but they’re not doing so well.”
Roughly 60% of the Asian money managers tracked by Eurekahedge follow a long-short equities strategy, while a scant 3%, or 12 money managers in all of Asia, follow CTA-like strategies (Wong himself trades like a CTA, but is not registered as one in the U.S.). Nine of these are based in Hong Kong, and three in Singapore, and their assets under management total just $3 billion.
Baddepudi and Wong say there may be a few more CTAs or CTA-type managers in the region — perhaps a total of 20, tops — but that none of them are on a par with U.S. or European giants in terms of money under management.
“Take a look at any index of Asian CTAs and you will find that very few of them have an AUM beyond $100 million,” says Wong, who himself has $130 million under management. “There are good performers over here but they’re only being discovered by people who know how to go looking for them.”
IMPENDING GROWTH SPURT?
As performance numbers from 2008 come out, however, Wong and Tam believe Asian investors will gravitate towards managed futures (See “CTAs vs. hedge funds”).
“We’ve gotten no new money in the last six months, because people are holding off on everything,” says Tam’s partner, John Philippakos. “Like a lot of CTAs, however, we’ve done very well in turbulent times. Our flagship program was up 40% in 2008, and now that the dust is settling chances look good for a big influx of money in 2009.”
Philippakos says that the credit default debacle has made all investors leery of any leveraged product, but both he and Tam believe that fear will be overcome by the allure of managed futures as a diversification tool.
“Asia came late to managed futures products in general,” says Tam, pointing out that such investments have only been authorized in Hong Kong since 1996. “But investors here are also primed to understand the value of alternative investments more than are investors in other places because we’ve experienced more disruptions.”
He says that both the late 1990s East Asian crisis and the more recent SARS scare hit Asia harder than they did the West and that Asia also suffered through the dot-com implosion. “People here are ready to hear about the importance of having a different kind of strategic allocation in their portfolio to avoid shocks,” he says.
TIME FOR NEW BLOOD?
That readiness long ago sparked an influx of Asian money into established CTAs like Winton Capital and John Henry, but newcomers like Future Edge and Vegasoul — who together represent more than 10% of the Asian CTA universe in numbers and more than 20% in money under management — have had to struggle for new money from the region, despite healthy performance. Wong believes that’s about to change.
“The past five years have been a relatively difficult environment for CTAs as a style, but if you look at individual CTAs, there is a large disparity in performance between smaller CTAs below $250 AUM and CTAs beyond $1 billion,” he says. “I suspect that the big CTAs have so much assets that they have an inordinate amount of their exposure in currencies, stock indexes, bonds and short-term interest rates — compared to having a balanced and diversified portfolio.”
He contrasts that with his own performance, which benefitted heavily from moves in commodities products in early 2008.
“Since 2003, everyone has been increasing the weight given to energy, but you never hear these guys talk about how much money they are making from agricultures,” he laughs. “You never hear them talk about coffee.”
Baddepudi agrees but points out that recent currency moves have also been good to most CTAs, even the big boys.
“They’ve all tended to do well with trending markets in currencies, as well as commodities, over the past nine months,” he says, adding that many CTAs keep their margin money in dollar-denominated Treasury Bills, giving them an added boost from the dollar.
REGIONAL TO NATIONAL TO GLOBAL
Baddepudi says trends in money management have yo-yoed considerably over the past two years from a regional focus to a narrow national focus to a broad global focus and that the strategies have also shifted rapidly.
“Until June of 2007, funds were steadily narrowing their scope geographically, from a broad-based approach, like Asia or Asia ex-Japan, to a mixed bag of specific countries, like Indonesia or Malaysia or Vietnam,” he says, adding that liquidity in local markets made the country-specific approach possible.
But as the focus was narrowing geographically, it was widening strategically.
“We were going more towards opportunistic strategies like at-risk assets, or corporate special situations like merger arbitrage,” he says. “But that began to change in June of last year, when we saw a counter-trend towards more global allocations and more multi-strategy approaches, where you have more flexibility to switch allocations.”
Eventually, as liquidity dried up in OTC instruments, the more esoteric strategies fell apart and diversification into liquid markets began to win out. Wong, Philippakos and Tam all say that focusing on futures has made it easier for them to diversify their risk in liquid markets and contributed to their success in 2008.
“The futures universe in Asia is comparatively small to the rest of the world. Whether you measure it by notional value traded or the number of markets available, the exchanges in Asia are not like CME, which develops a new futures contract every couple of months,” says Wong. “The most liquid futures products you have in Asia are stock indexes, which unfortunately do not give you too much diversification.”
Philippakos agrees, but believes the Asian markets are about to grow up fast. “They’re almost there,” he says. “Give them another few years and they’ll be the same as American and European markets in terms of efficiency.”
Tam adds, however, that many upstart Asian CTAs try to win local customers by advertising an Asian portfolio, a strategy that lives and dies by a limited array of markets.
“We could form a portfolio with just Asia-exposed instruments and that does have an appeal to Asian investors,” he says. “Instead, we try to explain that the more markets you cover, the more diversification you get, as long as the markets are liquid, and that argument is taking hold.”
PITCHING THE PRODUCT
In late 2008, both Tam and Philippakos blitzed the United States to tout their track record in an effort to drum up business — an act that carries a message to any upstart managers looking to tap into Asian customers.
“In the United States, the high-net-worth individual is still generally more sophisticated in terms of evaluating alternative investments,” says Tam. “The high-net-worth Asian guy is open to diversification, but doesn’t know the concept (of managed futures), while the high-net-worth American guy knows the concept and what questions to ask, so we don’t rely as much on having a personal connection with the [U.S.] investor as we do in Hong Kong.”
Asia also has no formalized distribution network like the introducing broker (IB) network of the United States, but instead relies on independent financial advisors (IFAs).
“These guys are really close to their investors and their investors trust them,” says Wong. “If you want investors who can afford the high minimums that our investments have, you have to rely on IFAs, who come to you. They’re like conduits of trust.”
“When we started, we put our heads down and focused on building a track record,” he says. “All the pedigree in the world won’t help if you don’t have a track record.”
Wong kept reporting his results to groups like Eurekahedge and Barclay Hedge and eventually an IFA found him.
“They just walked in the door one day,” he says. “If you build it, they will come.”
Baddepudi says many Asian IFAs began by targeting high net-worth investors in the United States and Europe and later began to recruit Asian customers.
“It goes back to the days when hedge funds were a lot more secretive than they are now,” he says. “They tended to be based out of Switzerland, because of all the wealth management and pension funds there, so even if the focus was Asia, the IFA would be based in Switzerland.”
That has changed as Asian wealth grew, and now even Eurekahedge has harvested its research to launch a third-party marketer called Eureka Capital Partners.
“There are certainly advantages to locating in Hong Kong,” says Philippakos. “For one, there aren’t as many CTAs, so you don’t get lost in the competition while trying to build a track record.”
Indeed, most Asian CTA and hedge funds are clustered in either Hong Kong or Singapore — and not just for regulatory reasons.
“The taxes are really low, especially if you earn your money by investing in foreign instruments,” says Tam. “But Hong Kong is also home to a growing population of high-net-worth individuals, and a growing population of IFAs. From a marketing perspective, it makes sense to be located in Hong Kong, even though a lot of our money comes from Macau and Taiwan.”
Philippakos warns, however, that even the best CTAs will find it tough selling directly in Asia.
“Knowing who you’re dealing with is a little more important in Asia than it is in the West,” he says. “You’ve got to build a relationship with a financial adviser and they have to have connections to high-net-worth individuals.”
Perhaps it is a case of the grass being always greener, but Wong and Baddepudi might be surprised to learn that many established U.S. CTAs have the same problems and frustrations he does. That he grew to more than $100 million in just over three years is impressive, regardless of how good his performance is. Some U.S. managers even may consider moving East.
