China Remains Intriguing for Investors and Managers Alike
The growth in China over the past few years has created unprecedented opportunities for Chinese hedge fund managers. Investors the world over are itching for exposure to this explosive market, yet some are having more success than others. Distance along with regulatory issues and linguistic differences, is making investing in Chinese funds particularly complex.
China’s sheer distance from traditional alternative investments hubs poses problems especially for smaller investors. They simply do not have the infrastructure to support the extensive and on-site due diligence process that has become standard in this post-Madoff marketplace. For this reason, funds of hedge funds, which typically have the resources and personnel to do extensive research in the region, tend to be the most prominent investors in Chinese funds.
Smaller investors are also more often being stymied by regulatory issues. The hedge fund industry is still in its fledgling stages on the mainland, and investors are often confronted with regulatory grey areas and funds with underdeveloped infrastructures. Differences between Hong Kong and mainland regulations add still more complexity to a marketplace that is already difficult to navigate.
A hedge fund manager based in Hong Kong recently made this comment: “At the very beginning of the due diligence process for investors allocating to China hedge funds investors should check to see if the investment manager is regulated, if the fund they manage have independent directors, if the fund is administered independently by a well known firm, and if the firm is audited independently by a top grade auditor. Basically all mainland-headquartered hedge fund managers fail this initial due diligence test.”1 Unfortunately, complexities are not limited to regulatory and infrastructural concerns.
Language and cultural barriers pose further challenges. Many Chinese managers are not comfortable enough with English to effectively market their funds abroad. These managers are also operating funds according to local practices, which often do not meet the expectations of global investors.
As challenging as the market may be for smaller investors, it is no less challenging for emerging Chinese hedge funds. Established Chinese managers hold the attention of foreign institutional investors; emerging managers must try to attract foreign private investors, such as family offices and wealth advisors, that often do not have the infrastructure in place to effectively pursue their interests in the Middle Kingdom. This leaves emerging managers with few options to raise capital.
Despite these challenges, investors do not seem daunted. According to data gathered by BHA analysts, Western interest in China-focused hedge funds is on the rise. During the fourth quarter, 29 investors expressed an interest in these funds. In the first quarter of 2010, however, 42 investors voiced an interest in these funds, an increase of 44.83 percent, and the second quarter is on track to hold steady.
Given investors’ current appetite for these funds, BHA analysts expect that they will find a way to overcome the difficulties of investing in this market.
1 HedgeTracker.com, “Investing with China-based Hedge Funds: Problems and Solutions,” February 14, 2010.