Global hedge funds are adding Japanese assets after local manager AIJ Investment Advisors Co. unnerved the retirement market by seeking to hide $1 billion in losses from its pension-fund clients.
Neuberger Berman Group LLC is winning new mandates to the $4 billion it has gathered in Japan since 2004. Winton Capital Management Ltd., with about $3 billion from Japanese investors, is seeing steady inflows, while Financial Risk Management Ltd. is starting a new fund to meet growing interest.
“We have seen an increase in inquiries from our clients, including Japanese pensions,” said Motoyuki Sato, who runs one of FRM’s fund of hedge funds. “It is unfortunate some pension funds had invested in AIJ, but it seems that they are still looking at alternative investments, including equity long-short products, as a way to diversify.”
Japanese pensions oversee $3.36 trillion, the world’s second-largest pool of retirement assets, according to Towers Watson & Co. They are pumping more money into alternative investments such as hedge funds in a bid to cope with domestic bond yields that are among the world’s lowest, two decades of slumping stocks and a rapidly aging population. Twenty-one percent of retirement funds plan to boost alternative investments in the fiscal year started April 1, the most among 10 asset classes, a May survey by JPMorgan Chase & Co. showed.
AIJ President Kazuhiko Asakawa was among four people arrested on suspicion of fraud today, a Tokyo Metropolitan Police Department spokeswoman said on condition of anonymity, citing police policy. They allegedly defrauded pension funds in Tokyo and Nagano Prefecture of about 7 billion yen ($89 million), the person said.
Asakawa admitted in parliamentary testimonies earlier this year to disguising the losses, adding that he didn’t intend to lie to clients.
The Eurekahedge Hedge Fund Index, tracking more than 2,700 funds globally, has beaten the Nikkei 225 Stock Average every year since 2006. The hedge-fund index is up 1.8 percent this year through May, compared with the Nikkei’s 1 percent advance, while Japan’s sovereign bonds returned 1.4 percent, according to Bank of America Corp.’s Merrill Lynch index.
Hedge funds are private partnerships that cater to the wealthy and institutions, and seek to profit regardless of the direction of financial markets. The managers of the largely unregulated pools of capital can bet on falling asset prices, known as shorting, as well as on rising values.
AIJ, based in Tokyo, managed 145.8 billion yen of clients’ money and lost 109.2 billion yen from derivatives trades over nine years, the Securities and Exchange Surveillance Commission said March 23. The fallout, after the financial watchdog ordered the firm suspend operations in February, led to Japan’s biggest review of the fund industry and retirement funds’ investment practices.
The Ministry of Health, Labour and Welfare, which oversees the pension industry, plans a new set of guidelines to prevent a similar scandal by the end of June. Proposed measures include limits on allocations to single managers after some pension funds had invested more than half their assets with AIJ, a draft report by the ministry showed.
AIJ’s clients were small retirement plans, including taxi drivers and cooperatives, with little financial capacity to hire consultants or investment professionals.
“The Japanese pension market is showing a greater receptivity to foreign funds,” said Eric Weinstein, chief investment officer of Neuberger Berman’s fund-of-hedge-funds business in New York. “This increased receptivity gives pension funds a broader set of investment choices, so they will be better able to achieve their investment objectives.”
Neuberger Berman continued to win hedge fund investment mandates from Japanese investors following AIJ, he said. The New York-based investment company, which bought itself from Lehman Brothers Holdings Inc. after the investment bank filed for the largest bankruptcy in U.S. history in 2008, had about $193 billion under management as of Dec. 31.
About half of Japan’s pension assets are managed by local trust banks, according to Hidenori Suzuki, head of the strategic advisory group at JPMorgan Asset Management (Japan) Ltd. in Tokyo. The nation’s insurers and asset managers handle about a quarter, while foreign institutions oversee the rest. About 80 percent of hedge-fund investments by pensions are managed by foreign firms, including those that offer conventional products such as stock and bond funds, he said.
Alternative investments, including hedge funds and real estate, accounted for 9.7 percent of Japanese pension fund assets as of March 2012, according to the JPMorgan survey. That compares with 7.1 percent in March 2009. The average assets managed by Japanese hedge funds are estimated at $71 million, compared with $257 million by North American managers and a global average of $174 million, according to Eurekahedge Pte, a Singapore-based data provider.
Pensions are becoming more selective, choosing larger international managers with proven track records as a result of the AIJ scandal, said Jiro Shimpo, director of alternative investment consulting for Japan and Northeast Asia at Russell Investments in Tokyo.
“There is a natural preference for bigger, more established funds, more as a process of elimination,” he said. “We’re seeing many European managers visit, seeking to entice Japanese pensions.”
Japan’s pension market trails only the U.S.’s $16.1 trillion, according to Towers Watson. About 80 trillion yen of pension money in Japan is in corporate plans, according to data from the health ministry.
About 90 percent of managers under Japan’s employee pension system had no prior experience overseeing assets, a government survey conducted following the AIJ fallout showed. Only 2 percent of managers at the 558 retirement plans were certified as analysts at a brokerage or financial planners, according to the survey. Those who had worked at financial institutions made up about 3 percent.
Japanese pensions are now returning to fund of hedge funds, which had fallen out of favor after the collapse of Lehman Brothers forced many to limit investor withdrawals, said Michael van Biema, founder of van Biema Value Partners LLC, a New York-based fund of hedge funds with about $800 million. Fund of hedge funds spread investors’ money across a variety of holdings, charging fees on top of the 2 percent of assets and 20 percent of gains that typically go to the underlying funds.
“The pendulum had swung all the way away from fund of funds and now the pendulum is swinging back,” he said. “One of the reasons that allocators use funds of funds is to fill in the holes of their expertise, and that’s a valid use of the FOFs model, assuming that FOFs do have the expertise. Doing it yourself is not always the best solution.”
FRM, an $8 billion U.K. fund of hedge funds that has agreed to be taken over by Man Group Plc, teamed with Sumitomo Mitsui Trust Holdings Inc. in April to offer a pool that invests in managers that trade Japanese stocks. FRM JELS began with about $19 million and expects to reach about $100 million in the next couple of months through new allocations from Japanese pensions, said Sato, the manager of the fund.
“We’re seeing demand for fund-of-hedge-funds products because of the due diligence capacity that’s been under the spotlight with the latest AIJ case,” said Sato. “We’re hoping that that service will provide some comfort to our clients.”
For London-based Winton, Japan is the second-largest market after the U.S., accounting for about 10 percent of its $30 billion of assets, according to the manager. In Japan, about $650 million has been raised from pensions, primarily through Daiwa Asset Management Co., according to Winton.
“AIJ has not affected any inflows from pension funds,” said Charles Allard, head of Asian sales at Winton. “We haven’t seen people who were planning to invest not invest. We continue to have some steady inflows into the funds from Japanese pension funds.”
Japan’s pensions have been slow to embrace hedge funds, with 2.2 percent of assets allocated to the partnerships, according to data compiled by London-based research firm Preqin Ltd. U.S. funds account for 60 percent of hedge-fund investments, and Europe for 29 percent.
Domestic bond holdings, which make up the biggest asset class for Japan’s retirement funds, declined to 31.7 percent of pensions surveyed by JPMorgan as of March, from 34.4 percent three years ago.
The 10-year Japanese government bond yield is 0.8 percent, the second lowest after Switzerland. The Nikkei is less than a quarter of its 1989 peak.
“Because the Japanese stock market hasn’t performed very much for a long time, both individual and pension funds increasingly need to diversify their portfolios,” said Winton’s Allard. “Pension funds across the world are realizing that they have to put money into alternatives. In the end, it’s about performance and what you’re offering and whether people want to diversify their portfolio.”
The pension of Hitachi Kokusai Electric Inc., a unit of Hitachi Ltd., Japan’s second-largest manufacturer, will almost double its allocation to hedge funds this fiscal year to 15 percent from 8 percent, said Kazuaki Sakura, the fund’s adviser.
“We’re sticking to our hedge-fund investment,” Sakura said. “What we’re looking for is the right risk-return level.”