Hedge Funds Got Windfall From Runaway China Stock Rally in April

China’s runaway stock rally delivered a windfall for hedge funds focused on the world’s second-largest economy in April.

Greenwoods Asset Management’s $1.8 billion Golden China Fund returned an estimated 18 percent during the month, while Rays Capital Partners’ $192 million Asian Equity Special Opportunities Portfolio was up almost 19 percent. The Zeal China Fund ended the month 12.5 percent higher. Sumeru Capital Fund, which has less than $50 million of assets, returned 20 percent.

China’s equity markets have been on a tear on anticipation of further government stimulus as the country’s economy expands at the slowest annual rate since 1990. The Shanghai Composite Index surged 19 percent last month and the Hang Seng China Enterprises Index advanced 17 percent, among the five top-performing primary equity indexes globally, according to data compiled by Bloomberg.

“The outperformance is quite widespread given the uptick in large blue chips and index plays,” said Marlon Sanchez, head of Asia-Pacific prime finance distribution at Deutsche Bank AG. “Funds that did well were generally long asset plays which moved higher on speculation of more policy reforms in the second quarter.”

The Chinese central bank announced the most aggressive cut in lenders’ reserve requirement since the global financial crisis in April. Effective Monday, the People’s Bank of China cut interest rates for a third time since November.

Extending Gains

The HFRI China Index, which tracks hedge funds focused on the country, jumped 13 percent in April, the largest monthly gain since Chicago-based Hedge Fund Research Inc. started the gauge in 2008.

The April profits extended the Greenwoods Golden China Fund’s return this year to 23 percent, said Joseph Zeng, a Hong Kong-based partner. Sumeru’s record month led to a 26 percent gain for the first four months, said Ernest Ng, who co-manages the Hong Kong-based fund that focuses on Greater China stocks.

Zeal China Fund was up just shy of 20 percent this year, according to Franco Ngan, chief executive officer of Hong Kong-based Zeal Asset Management which oversees about $500 million assets.

The Rays fund returned an estimated 24 percent over four months, said David Ruan, one of its managers.

Portfolio Rotation

The Zeal China Fund was helped by increases in materials, insurance and banking stocks that it held going into April, according to Ngan. The market rally accelerated price gains of technology, financial and utilities companies -- such as power and water treatment plants -- that Sumeru owned and thought would remain undervalued for longer, said Ng. Rays profited from health-care and environment-related bets, said Ruan.

The Shanghai stock index has more than doubled in the past year through May 8, and the Hong Kong gauge rose 44 percent, raising concern that the rallies are overdone.

Quarterly earnings of companies on the Shanghai index are trailing analyst estimates, with the widest gaps in technology and basic materials, according to Bloomberg-compiled data. Shanghai stocks retreated 5.3 percent last week and the Hang Seng China Enterprises Index was 4.7 percent off this year’s peak on April 27.

“Portfolios are seeing rotation as less confident investors take profits here and potentially stay sidelined until we have more clarity on the direction of policy,” said Sanchez.

‘Buying Opportunities’

Share-price surges have not been supported by company fundamentals in pockets of the markets over the last few months, forcing investors to be more selective, Ruan said. The fund managers and Deutsche Bank’s Sanchez also note global funds are still underweight China.

Zeng said Greenwoods remains positive about Chinese equities, expecting more interest-rate and reserve-ratio cuts within the next few months, which will reduce companies’ funding costs further.

It is focusing on industries such as consumer, life insurance, health care and telecommunications where earnings are more robust even in a downturn. Valuation of Chinese stocks listed outside of the country remain “compelling,” Zeng added.

“If H-shares and red chips continue declining, their valuations will be lower and offer good buying opportunities for the long-term for fundamental investors like us,” George Jiang, Greenwoods founder and chief investment officer, said in an e-mail.

H-shares are China-incorporated companies listed in Hong Kong. Red chips are Chinese companies incorporated outside of the country and listed in Hong Kong.

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