Hedge funds investing in Japan are scouting for opportunities after weathering the country’s worst earthquake and resulting nuclear crisis as the Bank of Japan pumped record funds into the financial system.
R-SQUARED Master Fund, which benefited from investments in put options and credit default swaps before the March 11 temblor, is finding opportunities in subordinated debt. Dymon Asia, which started a macro hedge fund in 2008 with capital from Tudor Investment Corp., sees potential in the foreign exchange market after the fund returned 8 percent last month.
Hedge funds investing in Japan returned 0.3 percent in March on a preliminary basis, according to estimates from Singapore-based data provider Eurekahedge Pte, beating the 8.6 percent slump in the benchmark Topix index of 1,666 stocks. Japan moved to weaken the currency by selling 692.5 billion yen ($8.1 billion) last month as policy makers battled the nation’s worst postwar disaster.
“The Bank of Japan acted very quickly and they were responsive in flooding the market with Japanese yen, so the cost of funding did not increase,” said Christopher Donald, managing director and the head of global prime finance for Japan at Deutsche Securities Inc. in Tokyo. “That provided a lot of liquidity and comfort to the overall market. It is really now a researchers’ game.”
The magnitude-9.0 temblor and ensuing tsunami on March 11 led to more than 27,000 dead or missing and damaged Tokyo Electric Power Co.’s Fukushima nuclear plant. The nuclear disaster is rated 5, the same degree of severity assigned to the Three Mile Island accident near Harrisburg, Pennsylvania, in 1979. The world’s worst nuclear accident was the level 7 disaster at Chernobyl, Ukraine, in 1986.
The temblor snapped a stock market rally of about 16 percent since November.
“Being long Japanese equities was a very popular trade prior to the earthquake,” Dymon Asia Capital Chief Executive Officer Danny Yong said. “Given the uncertainty about the extent of the damage at the nuclear reactors initially, we expected investors to shoot first and ask questions later.”
That’s what happened: the Topix plunged 18 percent in the wake of the quake to its low on March 15 and remains 8.4 percent below its March 10 level. Foreign investors bought a record amount of Japanese stocks in the first week following the earthquake.
The stock market’s rout pushed valuations on the nation’s stocks to the lowest since after the collapse of Lehman Brothers Holdings Inc. in September 2008. Credit-default swaps of sovereign debt surged to a two-year high after the quake.
“When we last saw market events of this magnitude in 2008, the week Lehman failed, I think that was far more jarring,” said Masa Yanagisawa, director and head of global prime finance sales for Japan at Deutsche Securities in Tokyo. “During the Lehman crisis it was just complete absence of liquidity.”
The BOJ injected a record 15 trillion yen into money markets on March 14. Lenders’ deposits with the central bank reached an all-time high of 42.6 trillion yen on March 24.
The Group of Seven nations’ finance chiefs said in a joint statement on March 18 they will “provide any needed cooperation” with Japan after the yen strengthened to a record 76.25 per dollar on March 17. The G7 members hadn’t stepped in the market together since September 2000 when they sought to support the euro as it tumbled in its second year of existence. The Japanese currency recently traded at 85.06 yen per dollar.
180 Degree Change
“The biggest change after the disaster for the financial markets is the fact that thanks to the BOJ’s quick response, Japan’s fiscal policy and monetary policy trend has changed 180 degrees,” said Shuhei Abe, chief executive officer of Sparx Group Co., Asia’s second-largest hedge fund.
Returns by Sparx’s long-short Japanese equity funds ranged from about minus 1.5 percent to positive 2 percent in March, said Abe.
The crisis at the Fukushima Dai-Ichi plant may weigh on the market until owner Tokyo Electric shows the situation is under “some sort of control,” Abe said.
The Fukushima plant had its power and back-up generators knocked out by the tsunami that followed the earthquake.
Late yesterday, a magnitude-7.1 earthquake hit near the site of the March 11 temblor, the U.S. Geological Survey reported on its website. No unusual conditions were observed at the Fukushima plant, according to statements from Tokyo Electric and Japan’s Nuclear and Industrial Safety Agency.
Stocks rose on speculation that damage from the latest temblor was limited, pushing the benchmark Nikkei 225 Stock Average up 1.9 percent at the 3 p.m. close in Tokyo.
The $115-million R-SQUARED fund, run by Singapore-based MAM Pte, returned about 0.6 percent in March on a preliminary basis, bringing its return since inception last April to about 13 percent. The fund, which employs an arbitrage and relative-value strategy that bets on price differences between markets, has had no redemptions since the quake and had allocations from new investors in April, said co-chief investment officer Gen Kato.
“There was an enormous amount of volume in the first week and some panic-like price actions were seen immediately after the earthquake, but we took on some new relative-value risks,” said Tan Maruyama, a former proprietary trader at Goldman Sachs Group Inc. in Tokyo who now runs the fund with Kato.
Tier 1-subordinated bonds and preferred shares that fell in the knee-jerk reaction selloff after the March 11 quake look attractive going forward, Kato said.
Dymon Asia Capital profited from active short-term trading in the days following the quake, said CEO Yong.
“We tend to adopt a nimble trading approach when the markets are news-driven and volatile,” Yong said.
The Singapore-based firm, which manages an Asian macro fund with more than $500 million, bet on a decline in Japanese stocks following the temblor. It covered its short positions on March 14 and went long the Nikkei 225 index futures four days post the quake, said Yong, who previously worked at Citadel LLC and Goldman Sachs.
The concerted effort by the G7 countries to get involved in the currency market was a “welcomed surprise,” said Yong.
“We believe the yen is possibly at the start of a significant weakening trend against other Asian currencies like the Korean won, the Chinese RMB and the Singapore dollar,” said Yong. “Japan needs a weaker yen to help it tide through this tough period, and the G7 agreement has in effect given Japan the green light to engineer a weaker yen.”
For now, Yong said he favors being short the yen and long the Korean won and Chinese renminbi, while keeping a “neutral” position in equities. Shorting involves selling borrowed securities with the view their value will fall and they can be bought back cheaper.
Just 11 days after the quake, Deutsche Securities, which expects global hedge-fund assets to reach a record $2.25 trillion by year-end, held the Alternative Investment Survey seminar in Tokyo, attended by 25 Japanese institutions.
“We feel that despite the events lately in Japan we’re going to see further growth in the hedge fund industry in general,” said Deutsche Securities’ Yanagisawa. “Global investors will continue to look at absolute return strategies in volatile markets like these.”
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