The Jade Japan Fund was launched in June 2000 and is managed
by Dominic McEwan, who joined Jade in May 2001. He has over
15 years' experience in the Japanese markets, most recently
as a director of Bonfield Asset Management, where he was one
of the inaugurators of its Japanese funds. Prior to Bonfield,
Mr. McEwan was head of Japanese equities at Commerzbank and
a senior vice president at Jefferies International.
The Jade Japan Fund is a long/short Japanese equities hedge
fund. Security selection is based on both bottom-up and top-down
fundamental analysis. The Fund was -1.1% for 2002 and estimated
to be +0.5% for January 2003.
Interview with Dominic McEwan
- What are the current plans to raise the assets under
management which are currently at US$10m?
Today we have officially launched a Yen class for the
fund. This class will be subscribed for, redeemed in and
priced in Yen. Subscriptions for this class begin at the
end of January and have already attracted around $1.5
million dollars worth of new money. We believe that this
class will be attractive to investors who are ultimately
Asian domiciled. This is a geographic area which until
now has remained largely untapped by us; recent published
reports suggest that there is $5 trillion worth of assets
held by Asian high-net-worth investors and this is likely
to increase to around $7.5 trillion by 2006. In addition,
it would appear that the Asians have an increasing appetite
for hedge fund products, having become very jaundiced
by continued stock market declines and almost zero interest
rates (in Japan).
- Did the collapse of the $300m Eifuku Japan long/short
hedge fund in early January have any effect on your portfolio?
No noticeable effect observed. Reading the news items
associated with this collapse there are two main points
concerned with the wind-up. Firstly it would appear that
they were running a highly leveraged, position focused
strategy which went wrong. We run a strategy which is
diametrically opposite to this, that is an un-leveraged
and diversified portfolio. Secondly, the names mentioned
in which they were running big positions were: Sega, NTT
and NTT DoCoMo. Jade Japan did not have positions in any
of these names at the time of the collapse.
The Fund had its worst two months during September
and October 2002 (combined -5.4%) since its launch in
June 2000. What went wrong during those months and have
you changed the Fund's risk controls because of the drawdown?
We took the September 19th announcement by the Bank of
Japan (BoJ) to purchase shares from Japanese banks' portfolios
as a positive step forward in the battle to combat the
problems in the Japanese banking system. Many have argued
in the past that it was the BoJ that caused the "bubble"
economy and it was the BoJ that eventually burst the "bubble",
and so now perhaps it would make sense for the BoJ to
help solve the problem caused by the bursting of the bubble.
Furthermore, when Mr. Yanagisawa, (who would have been
opposed to such actions by the BoJ) was replaced by Mr.
Takenaka as Minister for Financial Services, it further
strengthened our belief that this was a positive move.
In years to come this may be seen as the "turning-point"
but as is often the case these inflection points are at
first misunderstood (or it may just be another false dawn).
Worries about what this all meant, and the prevarication
in making a coherent policy statement caused some US and
European long only funds to throw in the towel, and they
aggressively sold off their Japanese holdings. This kind
of capitulation selling pays no attention to fundamental
valuation, cheap stocks became cheaper. It was, not surprisingly
then that our long positions caused the majority of the
poor returns over this period; running slightly net longer
overall positions (40% instead of 15 to 20%) also exacerbated
the problem. At the same time stock prices were experiencing
very quick reversion periods, as the fund tends to have
a low turnover this also didn't help.
After the analysis of what had occurred was completed,
it was decided that improved sentiment indicators were
needed to better understand current market conditions.
This now means that we are less likely to be fooled into
false rallies and in determining the "quality"
of the market means that one is more likely to get out
of the way of "capitulation" selling. Furthermore
in identifying, at the time, whether a market is better
suited to a trader or a fundamental investor, we can adjust
our levels of turnover to fit the prevailing conditions.
It is worth noting here, that the 6.6% annualized standard
deviation for the fund since launch shows that the Jade
Japan Fund has one of the lowest volatilities for a long/short
fund in its peer group.
What investments went well in 2002?
The biggest winners were on the short side; gains here
included short positions taken out in May on Nikon, Sanyo
Electric and Sharp, all of these were closed in the last
quarter of the year. Although it was harder to make money
on the long side of the portfolio, we were pleased with
good gains in UFJ in early February and again in early
May and our handling of Fanuc where we were long from
late January to early March capturing a 38% gain in the
price, and then short from late April until early August
capturing a 23% decline in the share price.
- As a manager who focuses on the most liquid names
of the market, has there been a decrease of liquidity in
Japan over the past 12 months? Has the change affected your
If one looks at the daily value of turnover, rather than
share turnover, of the Tokyo exchange, over the last year,
there was only a fall off from the late summer, and this
has mainly reversed now. As stated in your question we
concentrate on the more liquid names and because of this
there was no easily recognizable impact felt on investment
decisions. However, turnover is always important which
is why hedge fund managers close their funds to new investment
at significantly lower sizes than traditional long only
managers; we feel that unless there was a marked increase
in volumes then the fund could be run without any style
change up to around $300 million.
What has market volatility been like over the past
Up until the week beginning 27th January, the volatility
has been reasonably normal since the start of the year.
Large, unexplained movements in share prices with fast
reversion periods, as observed in the last quarter of
2002, have not up until now been seen in such abundance.
This makes position selection more fundamentally value
based and thus Alpha should be easier to capture.
- Are you finding enough companies with strong balance
sheets and free cash flow to keep you excited about Japan
at the micro-economic level?
Corporate Japan is continuing to rationalize its businesses.
Companies have been concentrating their efforts in growing
their profits rather than their sales. This has meant
that unprofitable, non-core businesses have been sold
on or shut down and because of this free-cash-flow generation
has become more rather than less evident. Free-cash-flow
is important for highly indebted companies as it allows
them to pay down debt, but also a significant number of
Japanese companies have net cash rather than net debt
on their balance sheets. This has allowed a vast number
to embark upon share buy-back programs, adding value to
companies where share prices have fallen too low. Opportunities
appear when share prices get sold off or bought aggressively,
but do not adequately reflect the valuations on a historic
or peer group comparison.
- It appears that government-induced market rallies have
become a yearly occurrence coming into the end of March
(fiscal year-end for many Japanese companies). Do you think
it will occur again this year; if so, in what form?
A certainty only ceases to be a certainty when it no
longer occurs; this frequently is the case when the vast
majority of participants believe it is a certainty. If
there is to be a government-induced rally it will probably
coincide with the announcement of the new Governor of
the Bank of Japan.
- Ordinarily, hedge funds have bought back short-sales
in Japan ahead of the 3rd week in March, which is the deadline
for returning borrowed stock. This year it appears that
hedge funds had already begun to actively close their short
positions by mid January. Has this indeed occurred; if so,
what are the reasons?
There is a classification of "callable"
or "non-callable" on stock borrowing, only callable
has to be returned prior to the year or half-year book closing
points. The continued depression of the stock market may
have something to do with the earlier closing of short positions.
There has only been one time since the market opened post
the Second World War when the Japanese market has been down
four years in a row, which was from the end of 1960 to the
end of 1964. The total decline during this period was just
under 17%. The decline we have suffered in the last three
years is around 51%, this compares to the decline seen in
the three years after the peak of the bubble (years 1990,
1991 and 1992) of around 54.5%.
- Who do you see as replacing Mr. Hayami as the new
Bank of Japan Governor; and will this person take an active
approach in re-flating the economy?
The Japanese political system
is as opaque as it has always been, therefore it is not
prudent of me to forecast who will be appointed the next
governor of the Bank of Japan. However if Moody's Credit
Rating Agency is to be believed then an inflation-targeting
governor may have "positive longer-term implications
for the country's credit ratings" and therefore could
only be perceived as a short-term positive.