Japanese Investors "Ran for the Hills" September 2008

"The greatest mistake you can make in life is to be continually fearing that you will make one."

Elbert Hubbard (1856 - 1915)

September 2008 marked a watershed in Japanese investing in hedge funds. Single managers and hedge fund of funds alike report that virtually all categories of investors from insurers, to banks to regional banks and trading companies put in redemptions en masse.

Rather than vilifying all Japanese investors as representing "fast money" the fact is that they were doing what virtually any other institutional investor has been doing around the globe. This author contends that out of an estimated US$30 billion, as much as US$21 billion or roughly 70% came out of hedge fund of fund vehicles, and the bulk of that negatively impacted mainly U.S. based operations.

Who suffers? A large number of so called multi-billion dollar brand-name HFoFs clearly took the biggest hits. The list is likely to include many well-known multi-strategy shops like FRM, GAM, UBS, Ivy, Arden, Optimal, Weston and a few others such as EACM. For many of these managers, Japanese investors typically represented between 10%-25% of total AUM.

It is perhaps the mid-tier FoHF operations, previously with around US$1 billion in AUM that are likely to have suffered the most. For them, the short term impact of the current liquidity crunch has probably put back their AUM growth back 2-3 years. In order for their business model to survive they must now step up marketing in the U.S. market - already damaged by the Madoff fiasco - or else look to merge/roll-up with other middle-market FoHFs. It is the lack of critical mass that might force them into irrelevancy when institutional investors ever come back to investing with them!

The reason for the unanimous fear and departure from hedge fund strategies is well known. For many of these Japanese institutional investors (who operate like well-oiled, slow bureaucracies) senior management meetings all occur around the same time in Tokyo. Typically, they all face the same challenges and tend to move as a group in order to not stand out. This means that when the larger operations make a decision on investments all of the smaller operations will tend to follow.

The question remains, where have these funds gone? The double whammy of investment losses and potential US$ currency losses will no doubt frustrate senior managers back in Tokyo. But, the choices are very slim these days so it is almost sure that some of these funds will eventually be back - probably once the bottom in many markets is already "in". Unfortunately, the reputation of Japanese investors as "hot money investors" may not recover quickly a fact that might worry a number of single hedge fund managers going forward. Mahalo.