Korean hedge funds in modest start with $200 million AUM

South Korea’s nascent hedge fund industry has gotten off to a modest start, with about a dozen funds now managing an estimated total of $200 million in assets.

However, the sector holds plenty of potential over the long term, suggests Didier Giesen, head of the Asia-Pacific hedge fund business for Misys, a supplier of software to the financial industry.

The liberalisation of Korea’s hedge fund market late last year by local regulators came at a time of waning interest towards the global industry due to underperformance and market volatility, notes Giesen, who recently visited the country and spoke to hedge funds, regulators and prime brokers.

“The size of the hedge funds is small for the simple reason that seed money is a crucial issue.” There had been expectations that the country’s large sovereign entities and prime brokers would provide ready seed funding, although they have yet to allocate capital in the quantities anticipated.

“That might change, but today there’s not enough money pouring into those funds,” says Giesen, who adds that his observations are his personal sentiments on the market.

Previous estimates for total industry AUM suggested that the sector could ultimately attract $40 billion.

Another challenge in fundraising is the high barrier that has been imposed on retail investors, who are subject to a minimum subscription of $500,000. “It automatically drives the market to what we call the institutional level,” says Giesen.  Lowering the bar could help raise investments to the sector, he adds.

The move by South Korean regulators to liberalise the hedge fund sector last year came as a surprise to many in financial circles, as the changes had been promised for years but had met delays in the country’s parliament.   

The regulators and local asset management industry proceeded admirably in light of the rapid changes, says Giesen, with the prime brokerage industry also evolving quickly to accommodate the new asset class.

Woori Bank has had a strong synthetic prime brokerage operation in the market, with Daewoo Securities holding a smaller, yet notable share of the business in providing equity swaps for shorting purposes. Prime brokerages are developing swaps, synthetics and other hedging tools for the market, says Giesen.

However, the guidelines for collateral management in South Korea are not yet as well developed as in Hong Kong, Singapore or Sydney, notes Giesen. He believes the situation will change, as prime brokerages who lend physical securities to hedge funds will inevitably generate a “tremendous” amount of collateral.

The government needs to ensure that “safety guidelines are in place and there is a proper monitoring of collateral issues in Korea”, he says. It would prevent problems similar to those that arose from the Lehman Brothers saga in 2008, when hedge funds that received margin financing from the US bank were unable to withdraw their collateral after it declared bankruptcy.  

Misys, which has had a presence in South Korea for the past 15 years, sees the country’s hedge fund market as a long-term growth sector for its software, which includes cross-asset portfolio and risk management products. Misys itself is 21.5% owned by a hedge fund – US-based ValueAct Capital.

South Korea’s large pension funds might eventually emerge as a sizable allocator to the domestic hedge fund industry. “Why would a pension fund, which is already investing in the Korean market ... put [its] money in hedge funds? The answer to that is pretty simple,” says Giesen. “They would have a gap to pay the pensions, and that gap needs to be filled.”