Research

Greater China Equity Hedge Funds: Market Volatility Strikes Back

Greater China equity hedge funds ended 2017 with their best annual performance on record since 2009, supported by the remarkable rally of the Chinese equity markets throughout the year. The Eurekahedge Greater China Long Short Equities Hedge Fund Index which tracks 59 Greater China focused hedge funds utilising equity strategies posted a 31.87% gain in 2017, outperforming equity hedge fund managers from the broader region, as represented by the 19.73% return generated by the Eurekahedge Asia Long Short Equities Hedge Fund Index over the same period.

Unlike the relatively uneventful 2017, getting through 2018 will not be smooth sailing for this mandate. Volatile trading conditions and various political concerns took their toll on Greater China equity hedge funds as they ended a third consecutive month in the red. Uncertainties regarding the potential trade war between China and the US and geopolitical tension around the Korean peninsula put a lot of pressure on the region’s equity markets as investors tread carefully, while from within the country itself, the government’s clampdown on corporate debt and lending weighed down on the insurance and financial sectors. As of April 2018, the Eurekahedge Greater China Long Short Equities Hedge Fund Index is still up 0.48% as the losses suffered in the last three months weren’t enough to wipe out the gains made in January. Future prospects of the Greater China mandate is not all doom and gloom, as investors’ confidence recovered amidst dwindling concerns over the US-China trade war, bolstered by Xi Jinping’s decision to cut import tariffs. MSCI’s decision to include more CNY-denominated A-Share equities into their Asia Pacific and emerging market indices might help provide the much needed tailwind for the recovery of the region’s equity markets.

Figure 1 illustrates the performance of the Greater China equity hedge fund managers since the end of 2009 compared to their regional peers across Asia, as well as the underlying equity markets of the country as represented by the CSI 300 Index which tracks 300 large cap A-Share equities in the Shanghai and Shenzhen stock exchanges, the Hang Seng Index which represents the companies listed in the Hong Kong stock exchange, as well as the MSCI Golden Dragon IMI Index, representing the wider Chinese equity market.

Figure 1: Greater China equity hedge funds outperformed their benchmarks and regional peers since end of 2009
Greater China equity hedge funds outperformed their benchmarks and regional peers since end of 2009

As the figure above shows, Greater China equity hedge fund managers generated an annualised return of 7.82% since the end of 2009, better than any of the equity indices used as benchmarks. These fund managers successfully hedged themselves and suffered smaller losses during periods in which the underlying region’s equity markets were taking a beating, and still managed to capture their upward rallies. For comparison, the CSI 300 Index posted an annualised return of 0.59% over the same period, while the Hang Seng Index and MSCI Golden Dragon Index both generated roughly 4.20% per annum.

Table 1: Performance in numbers – Greater China equity hedge funds vs underlying equity markets

 
Eurekahedge Greater China Long Short Equities Hedge Fund Index
CSI 300 Index
Hang Seng Index
MSCI Golden Dragon IMI Index
Eurekahedge Asia Long Short Equities Hedge Fund Index
2010
7.80%
(12.51%)
5.32%
8.57%
8.15%
2011
(14.36%)
(25.01%)
(19.97%)
(22.18%)
(9.09%)
2012
11.94%
7.55%
22.91%
16.99%
9.55%
2013
21.58%
(7.65%)
2.87%
6.64%
18.33%
2014
7.50%
51.66%
1.28%
4.68%
6.56%
2015
9.88%
5.58%
(7.16%)
(8.65%)
6.80%
2016
(4.77%)
(11.28%)
0.39%
1.00%
(0.77%)
2017
31.87%
21.78%
35.99%
36.38%
19.73%
April 2018 year-to-date
0.48%
(6.80%)
2.97%
1.46%
(0.89%)
2 year annualised returns
5.90%
3.54%
7.90%
7.59%
3.92%
2 year annualised volatility
7.76%
11.49%
12.22%
10.55%
4.55%
2 year Sharpe Ratio (RFR=2%)
0.50
0.13
0.48
0.53
0.42
3 year annualised returns
2.16%
(4.74%)
1.83%
1.61%
2.55%
3 year annualised volatility
12.60%
22.02%
16.98%
15.83%
6.61%
3 year Sharpe Ratio (RFR=2%)
0.01
(0.31)
(0.01)
(0.02)
0.08
5 year annualised returns
11.24%
8.86%
6.26%
6.87%
7.63%
5 year annualised volatility
13.22%
25.60%
16.42%
14.52%
6.49%
5 year Sharpe Ratio (RFR=2%)
0.70
0.27
0.26
0.34
0.87
5 year maximum drawdown
(23.74%)
(40.35%)
(32.07%)
(30.03%)
(11.64%)

Source: Eurekahedge

Table 1 provides the detailed risk return statistics of the four indices shown in the figure above. Key takeaways include:

  1. The Eurekahedge Greater China Long Short Equities Hedge Fund Index posted a return of 31.87% in 2017, marginally losing against the Hang Seng and MSCI indices which posted 35.99% and 36.38% respectively over the year. Looking at the April 2018 year-to-date returns, Greater China equity hedge fund managers posted an average gain of 0.48%, which is behind the gains posted by the Hang Seng and MSCI indices, but still ahead of the CSI index which posted a loss of 6.80% over the first four months of the year.
  2. Looking over the last two years, Greater China equity hedge funds generated a Sharpe ratio of 0.50, which is noticeably better than the Sharpe ratio generated by the CSI index, but roughly similar to those of the Hang Seng and MSCI indices. A similar trend could be observed over the last three years, with Greater China equity hedge funds outperforming the CSI index and roughly matching the Sharpe ratios of the other two equity indices.
  3. Over the last five years, the Eurekahedge Greater China Long Short Equities Hedge Fund Index posted a Sharpe ratio of 0.70, vastly superior to the risk adjusted performance of the three equity indices, but lagging behind the 0.87 Sharpe ratio posted by the Eurekahedge Asia Long Short Equities Hedge Fund Index over the same period, owing to its lower annualised volatility.
  4. Greater China equity hedge fund managers posted a -23.74% maximum drawdown over the last five years, which is well below that of the underlying equity market indices, but also noticeably behind the -11.64% posted by the broader Asian equity fund manager category.

Table 2 provides the correlation values between the performance of Greater China equity hedge fund managers and the underlying equity market indices over the period starting in December 2009.

Table 2: Correlation matrix
Greater China equity hedge funds correlation matrix

The table above shows that among the equity indices, the MSCI Golden Dragon Index is most closely correlated to the Greater China equity hedge fund index, with a correlation coefficient of 0.86. However, this pales in comparison to the 0.93 correlation between Greater China equity hedge funds and Asia equity hedge funds, which might signify that a sizeable number of the Asian equity fund managers have high exposure to Chinese equities in particular. The Eurekahedge Greater China Long Short Equities Hedge Fund Index posted correlation coefficients of 0.80 to the Hang Seng Index and 0.73 to the CSI 300 Index.

Figure 2 below provides the 12-months rolling alpha of the Eurekahedge Greater China Long Short Equities Hedge Fund Index versus the three underlying equity market indices, assuming a risk free rate of 0%. As of April 2018, the rolling alpha generated by Greater China equity hedge fund managers stood at 1.07% against the CSI 300 Index, 0.60% against the Hang Seng Index, and 0.40% against the MSCI Golden Dragon Index. Looking over 2017, these fund managers managed to post alpha in excess of 1.50% against all three equity indices.

Figure 2: 12-months rolling alpha of Greater China equity hedge funds vs underlying equity markets (RFR = 0%)
12-months rolling alpha of Greater China equity hedge funds vs underlying equity markets

The figure above shows that the 12-months rolling alpha against the three equity indices managed to stay above zero most of the time. If we consider the entire period starting from December 2009, the Eurekahedge Greater China Long Short Equities Hedge Fund Index generated 0.58% alpha against the CSI 300 Index, 0.42% against the Hang Seng Index, and 0.39% against the MSCI Golden Dragon Index.

Figure 3: Breakdown of Greater China equity hedge funds’ alpha and beta against the MSCI Golden Dragon Index
Breakdown of Greater China equity hedge funds’ alpha and beta against the MSCI Golden Dragon Index

The full article inclusive of all charts and tables is available in The Eurekahedge Report accessible to paying subscribers only.

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