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The making of a hedge fund hub

This article first appeared in Markets, Focus Malaysia, on Feb 27 – Mar 4, 2016.
Published in Focus Malaysia on Feb 26, 2016.

The current volatility in the global economy has many hedge funds enduring a challenging time. Those with less sustainable strategies have closed down. Even renowned names such as Pershing Square, Baupost Group and Greenlight Capital have been badly hit.

However, Malayan Traders Capital (MTC), which claims to be Malaysia’s first hedge fund operator, sees the volatile environment as a bit of a boon for a contrarian investor like itself. This is because its investment strategy is to identify value and invest for the long term (three to five years).

“We feel that the sell-off in equity markets is mostly sentiment-driven [rather than based on fundamentals], hence bargains are creeping up resulting from this disconnect,” MTC Advisors Sdn Bhd co-CEO Devan Linus Rajadurai tells FocusM. “We see companies that are not greatly impacted by a China slowdown and/or low oil prices being unfairly sold off, and we are taking advantage of this.”

Previously operating out of Singapore – since its inception in 2012 – MTC has moved its headquarters to Malaysia while keeping a satellite office in Singapore. It feels that Malaysia has the infrastructure and talent to perform at the same level as developed countries such as Singapore, Hong Kong or even the US in terms of service levels, infrastructure, and talent, in addition to lower cost of doing business.

MTC was awarded a fund management licence in November and is the first investment manager to operate under the newly-introduced boutique fund manager licence by the Securities Commission of Malaysia. This licence is issued to independent investment managers who operate niche investment strategies.

Appeal

Being based in Malaysia also provides MTC an edge over its US or UK-based counterparts as it is closer to key Asian economies, thereby allowing the hedge fund to visit these countries more frequently to really “kick the tyres” as well as to analyse local businesses and sentiment.

“For some time now the Malaysian asset management industry has been a bit stagnant in terms of innovation and we want to reinvigorate the industry to be on par with that of other developed nations,” reckons Rajadurai, who is also MTC’s chief investment officer (CIO). “We feel that the Malaysian market is underserved for global equities and absolute return strategies and we are here to bridge that gap.”

As to why hedge funds are not present in Malaysia, Rajadurai’s colleague and co-CEO Aaron Yew attributes this to the relatively smaller market that it has to offer. As hedge funds are limited in supply, the very good hedge funds will limit the amount of money they manage as the bigger they get in terms of assets under management, the harder it is for them to perform.

“Thus, many of the hedge funds such as Bridgewater, Pershing Capital and the Baupost Group are already closed to new investors as they have demand from their existing ones,” explains Yew who is also the deputy CIO. “For hedge funds that are still open to new investors, they would typically go to bigger markets such as Singapore, China or Indonesia.”

Moreover, hedge funds are almost non-existent in the portfolio of Malaysian investors as compared to other asset classes. Many Malaysians tend to invest in property, bonds, equities and cash, with a material bias towards property.

“We think Malaysians need to think more strategically about how they build their portfolio and their asset allocation across various asset classes, and invest like how a US endowment or Australian superannuation fund would invest in order to build a long-term sustainable portfolio,” says Yew. “The institutional investors have invested in hedge funds and absolute return strategies for quite some time now and we think Malaysia is behind on this front.”

In terms of whether MTC would invest in Malaysian companies, Yew says the hedge fund has no qualms of doing so provided such a move conforms to its strategy of building a robust portfolio of global companies that will produce a strong absolute return.

“There is nothing to preclude us from investing in Malaysian companies – if there are companies with the characteristics that we are searching for and are trading at reasonable valuations, we can invest in them,” he rationalizes. “In fact, we have taken positions in Malaysian companies before.”

Yew observes that the main challenge in promoting hedge funds in Malaysia is education and dispelling the common perception that hedge funds are risky. To-date, Malaysians are exposed to only plain vanilla investments such as bonds and equity, resulting in significant loss of wealth as they are unable to benefit from the superior returns that hedge funds can provide.

“Unfortunately, only the glamorous, complicated [and risky] hedge funds get media attention – in fact some have gone bust,” says Yew. “Educating the public that there are top-performing, low-risk hedge funds is essential to growing the industry.”

Relatively closed economy

Another plus point to grow the hedge fund market is to liberalise the asset management and capital market industry. In this context, Rajadurai notes that Malaysia has been operating in a relatively closed economy with capital controls.

“As a result, it is difficult for hedge funds which typically have an unconstrained universe to operate efficiently to deliver their investment objectives that investors seek,” he justifies. “This is a critical issue that needs to be addressed for Malaysia to compete with Singapore where capital flows are not restricted.”

To accelerate growth and enable Malaysia to leapfrog Singapore quickly, it is imperative for continued support to come from the top, particularly from the government and government-lined companies, according to Rajadurai.

“Nevertheless, the intent to develop the industry is here – in fact, the Performance Management & Delivery Unit [Pemandu] has been very supportive of what we are seeking to achieve and is continuing to assist where it can,” he says.

Advantages

The fact that hedge funds are unconstrained – unlike unit trusts which can invest say only 5% in a company or 20% in an industry – is where the greatest opportunities lie, according to Yew. There is also a difference between hedge funds and unit trusts/mutual funds in terms of absolute return focus. The former is not managed to a benchmark but focuses on delivering positive performance.

“Mutual funds and unit trusts tend to be relative return-focused and seek to ‘beat the benchmark’,” explains Yew. “But if the benchmark FBM KLCI returned -20% for the past three years and the unit trust returned -10% over the same period, that would mean they have met their objective, which in our view is not true as they have lost money.”

Speaking from experience, Rajadurai notes that hedge funds are able to utilise tools such as smart leverage and swaps to maximise returns.

“We have the ability to take credit from our prime broker from a low interest rate country such as Japan and the US [about 1% pa interest] and invest the proceeds into high return companies that yield a 10-15% pa return, thereby enhancing our investment performance,” he suggests.

Moreover, MTC is able to invest in closed markets such as India, South Korea and Taiwan that the general public do not have access to via equity swaps rather than investing directly into these exchanges. Swaps provide the hedge fund an added advantage to eliminate counterparty and repatriation risks that these markets tend to have.

Above all else, both Rajadurai and Yew have a significant portion of their own money in MTC.

“This is the most important factor when selecting a hedge fund as it ensures that the manager is performance-focused and not ‘asset-gatherers’ – we are focused on long-term performance and are always mindful not to take unwarranted risks as this has high potential to result in a loss of our own capital,” adds Rajadurai.

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