Mainland broker teams with IFA for hedge fund

Guangfa (GF) Securities in Guangzhou, one of China's top-10 largest brokerages, and Hong Kong-based independent financial advisor Nobel Apex Advisors have teamed up to launch a China long/short equities hedge fund.

The joint advisory arrangement amalgamates local Chinese expertise with international investment practices, says Chan Moufung, managing director at Noble Apex and director to the new fund.

The Caymans-domiciled AAM China Fund, which is not authorized by the Hong Kong Securities and Futures Commission, is now raising capital and will commence trading in November. It will take long-term stock positions while using a dynamic hedging tactic via shorting derivative contracts and individual stocks.

Initially the two partners will target Asian-based Chinese high-net worth investors, with the aim of raising $20 million in the launch period, says Chan. Next year, once a track record is established, the partners will target US and European institutional investors and, they hope, bring total assets under management to $100 million.

Chan and GF Securities general manager Xia Heping are selling their academic credentials for the launch. Both are PhD candidates at Tsinghua University in Beijing, and have brought in a Tsinghua economics professor, Chen Xiao, as the fund's third director. "Having the Tsinghua element is something other China funds lack," says Chan, who believes the university's reputation will help with marketing as well as provide the academic rigor for actually running the portfolio.

Chen Xiao explained the fund's directors intend to make returns by dint of their local knowledge of how politics impacts valuations in China. He notes that China's transitional economy involves a three-way dance between the central government, local governments and listed companies and their structural conflicts of interest, in which the government is both regulator and owner of listed companies; the tension between allowing stocks to overheat and preventing a market collapse; and the complicit agreement between local government owners and listed companies to avoid the central government's regulations.

This arrangement implies market downside risk is limited and that close attention to the interaction between central and local government can reveal investment opportunities, says Chen Xiao. "You've got to know the Chinese tango in order to understand how China's stock markets perform," he says.

The AAM China Fund will invest in all stock categories, including A shares and offshore classes such as B shares, H shares and red chips. Noble Apex will research H shares and red chips, while GF Securities will advise on A shares, economics and government policy. The fund has relationships with several QFII-licensed brokers including Bank of China International, Goldman Sachs, Morgan Stanley and UBS, in order to access A shares.

The directors will invest in state-owned enterprises in strategic industries such as mining and energy, companies that benefit from booming economic activity such as transportation, and companies with monopolistic or strong branding advantages.

The advisors will charge an annual 2% management fee plus a 20% performance fee, as well as early redemption fees. Bermuda Trust (now HSBC Trustee) is the fund administrator. Noble Apex's Chan says the fund is still considering a prime broker among three major players.

Nobel Apex offers a wide range of third-party funds from many global providers to its clients. This is the first time the IFA has become involved in advising a fund. Chan says there is no conflict of interest, partly because it is standard practice among many IFAs in Hong Kong and the United Kingdom to also act as investment advisors to funds, and because the AAM China Fund will not be marketed initially to existing Noble Apex clients. Noble Apex is Hong Kong's second largest IFA in terms of personnel, with over 100 consultants.

GF Securities is engaged in a buyout tussle with Citic Securities, which has made an offer to acquire a majority of GF shares. But GF's managers, who own stock options, objected, and last month two existing shareholders, a textile company in Liaoning province and a pharmaceutical company in Jilin province, countered by increasing their stakes.