Peter O'Neil Donnellon - Managing Director, Research and Investment, and Member of the ISA Board of Directors
Mr. Donnellon is responsible for overseeing the ISA research analysis and portfolio management process. He joined the company from HSBC Investment Bank where he established the Alternative Investments Group and was responsible for the selection structuring and distribution of alternative investments. While at HSBC he was instrumental in the creation of unique structured product for HSBC's institutional client base that had previously been unable to invest directly into hedge funds. Prior to joining HSBC Mr. Donnellon was with Baring Securities from 1989 -1995 where he held various positions including latterly being responsible for the setting up of new offshore funds to enable institutions to invest in emerging markets. He holds an MBA from Edinburgh University.
Interview with Peter O'Neil Donnellon
- The Topix posted a small gain in April and most Japan hedge funds had a good month, especially those long small-cap stocks. How did your fund perform?
The Ichibanboshi Fund is up an estimated 1.49% net for the month of April, versus a market performance of -0.96 for the Nikkei 225 for the month.
- The universe of 'investible' Japan only hedge funds is very small considering the size of Japan's equity market. Do you find this a problem when selecting quality funds for your portfolio? What do you see as the ideal number of funds in your portfolio?
We monitor around 130 funds Japan only fund, however, not all are investible. Some are closed or they do not have a Yen share class. There are many new funds with track records under three years. So we do have a larger proportion of relatively new managers in our Japanese portfolios as compared with our other US portfolios. However, it is not so much the limited number of funds, there are many good managers to choose from, but rather the lack of diverse, non-correlated strategies that make running a fund of funds in Japan difficult. We have 12 managers in the portfolio at moment, but the exact number depends on a number of factors. I would not want to start a new portfolio with less than eight but could go up to 15 or maybe 20 in a more mature fund.
Do you invest in start ups? If so what are your selection criteria and what % of the fund is balanced with those of managers with a proven track record? How often do you trade the funds in your portfolio?
It depends on the background of the manager and whether he has run similar strategies elsewhere. We have seeded new funds but only where no similar strategy already existed. I would not want to have more than around 25% of the fund in early stage funds. We do not trade funds, and portfolio turnover has been very small. Moreover, changes are not always for performance related reasons.
- Are you finding any interesting Japan launches in 2003?
Yes, particularly in new strategy ideas other than long short equity.
- A typically risk averse investor will only look at hedge funds with AUM greater than 50m and with a 2 year track record. How does your due diligence process effectively scrutinize start ups?
I am not so concerned about $50 million aum. That is really a constraint on large fund of funds because they do not want to be too much of a new managers assets, It is much easier for me to allocate $5-10 million. Moreover, I do not think demonstrating growth in assets proves anyone is a good money manager, rather that he has employed or is himself a good marketer. I would much prefer to find a great manager running $10 million than a so-so running $50 million. At the moment we have 3 funds in the portfolio with less than 2 year track records but all the managers have run similar strategies before starting these Japanese only products.
Typically fund of funds are targeted at investors new to the alternative market. How do you persuade more knowledgeable investors that paying performance fees twice is a good thing?
Our clients are all experienced Alternative Funds investors and know there is no "no cost" multi-strategy solution for them. Someone has to do the due diligence, monitor the managers and protect the investors' interests; there is a cost to doing this and so therefore a justifiable fee. A performance element in the overall fee structure is good for the client as it reduces the overall fund expenses at times of modest or negative performance. High water marks mean recovery from drawdowns should be quicker as performance fees are not paid. It also reflects the fact that this is a competitive market with limited capacity and the difference in performance between very good and very poor managers is extreme compared to index benchmarked long only funds.
- You have recently launched a capital guaranteed version of your Japan only fund of funds. How does this differ from the Ichibanboshi Fund?
The Shinsei Protected Japan Trust has 15 underlying managers, whereas the ISA Ichibanboshi Fund has 12 managers. The Trust is pretty much the same in portfolio composition. The target return is slightly less as part of the portfolio is always held in cash.
- How has the capital raising been for this product?
It has gone very well. We recently announced that our client, Shinsei Bank, has just closed a second tranche for the Shinsei Protected Japan Trust. We now have approximately $50 million in the product.
- Do you see an increased interest in these products in the future? What is the investor profile for a capital guaranteed alternative product?
If it continues to be successful, we expect to be able to continue raise money for further tranches. Shinsei has marketed this product particularly to their high net worth client base in Japan, but a non-protected version could be sold to other types of investors in the future.
- How do you see the expansion of hedge funds in Japan as compared with the rest of Asia in 2003?
Japan is a homogeneous market: one currency, one monetary policy, one economy. It is still the second largest economy in the world albeit the stockmarket is in a 14 year long bear market and there are some liquidity constraints. However it is still a comparatively inefficient market and hedge funds tend to thrive in inefficient market environments so I expect the number of funds to continue to increase and for good funds to perform well regardless of market direction. Asia is slightly different it is a heterogeneous market which by nature is more difficult to hedge effectively and is therefore more opportunistic. I think it does require some sort of turnaround in market sentiment and performance in order to be able attract significant new investment and funds. We have had interest in our First Light Fund which is an Asian Fund of Funds product and by virtue of the nature of the Asian markets as I mentioned is somewhat more market directional than our other products albeit still a hedged product.
- How do you see the appetite from global investors in Japan only funds?
Global Investors are generally underweight Japan and Asia which is not surprising when you realise the average Japanese mutual fund has returned minus 29% in the last 12 months. However even the most cynical foreign investor knows that the Japanese Authorities cannot allow the present situation to prevail much longer without instability and will therefore be forced to implement some sort of change to protect the market. For the investor the question is then how to preserve ones capital during these intense bear markets but still remain exposed to the opportunity to purchase the "crown jewels" of the Japanese economy at once in a lifetime opportunity prices. Over the past 13 months we have been able to demonstrate a modest positive return with extremely low volatility while the general market represented by the Topix and Nikkei 225 have fallen 23% and 28% respectively. Multi strategy hedge funds are a new concept in Japan but many global investors are following what we are doing domestically in Japan and watching how we do. I am confident that if we can continue to do what we are doing and demonstrate that we can make money in less ferocious market conditions we will attract considerable interest from global investors. Another factor which should not be ignored by global investors is that a number of prominent Japanese companies have begun share buyback programmes at a time when research by foreign investment banks is on the decline. This domestic recognition of "value" is a fundamental and significant change.
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