SHANGHAI (Reuters) – A sudden and edged rise in China’s stock market has hit some of the country’s biggest hedge funds, forcing them to hastily close miniature positions and suffer losses on bets in the heavily regulated derivatives market.
Beijing X Asset Management, Techsharpe Quant (Beijing) Capital Management and Shenzhen Chengqi Funds were among the funds pushed into the background when troubled Chinese stocks regained a quarter of their value in less than a week in tardy September amid a raft of stimulus measures .
Their losses resulted from miniature positions in Chinese stock index derivatives, which market-neutral fund strategies necessarily employ to hedge equity holdings.
Market euphoria as China showed stern intention to fix its ailing economy sent futures prices soaring, causing losses on these positions that could not be offset by cash gains.
British hedge fund giant Winton’s trend-based strategy was also upended by an unexpected market reversal in China, forcing the company to quickly backtrack on its bearish assumptions.
Regulators have clamped down on data-driven quantitative funds this year and tightened restrictions on short-selling stocks, leaving the market vulnerable to wild swings, said Hu Bo, a fund manager at Shanghai Professional Fund Management Co.
Hu said the declines underscore the risks of relying too heavily on a single strategy in a moody Chinese market.
“Any strategy tends to hit a wall after a period of outperformance,” Hu said. Therefore, investors need to “adopt diversified investment strategies and conduct more detailed research.”
According to broker data, Beijing Techsharpe fell 5.2% and Shenzhen Chengqi Funds fell 4.6%.
The index tracking China’s “market neutral” strategies fell 4.83% in the last week of September and has barely recovered since then. The correction is the second largest on record and scarce for products designed to deliver absolute returns.
Chinese markets have been in a frenzy since September 24, when authorities unveiled interest rate cuts and policies aimed at saving this year’s 5% economic growth target. Since then, the CSI300 index has increased by 20%.
“Quantitative strategies only work in a balanced market,” said Tim Cao, a hedge fund manager in Shanghai who is now shifting to qualitative analysis. “In a crazy market, almost all quantitative models become ineffective.”
Winton declined to comment. Beijing X, Techsharpe and Chengqi Funds did not respond to Reuters requests for comment.
Quantitative earthquake
China index futures typically trade at a lower price than the stock indexes to which they are linked, due to the lack of tools for bearish miniature positions in mainland markets.
This constant discount turned into a premium overnight, dealing a blow to hedge funds.
On September 30, the spread between CSI300 index futures and the underlying benchmark index widened to 142.80 points, the highest in nine years. This outbreak wiped out the funds’ hedging strategies as futures contracts no longer helped offset stock market positions.
The rapid change in trend has also disrupted trend-following strategies such as those at Winton. The index tracking trend-following strategies posted its first weekly loss in a month.
Winton, which manages about 6 billion yuan in China, fell about 8%, according to investors.
The money manager told investors at a recent meeting that bearish bets on Chinese stocks, energy and base metals were weighing on performance, according to a memo obtained by Reuters.
Winton told investors that miniature positions in stock index futures had been liquidated and bets on bearish commodities had been cut by a third.
Hedge funds operating in China have faced such pressure before. Liquidity in the smaller-cap market fell in February amid what some are calling a “quantum earthquake” in China.
Investors expect it will take time to recover these funds. China Merchants Bank’s wealth management unit asked investors to be patient and advised them not to rashly replace products.
“For funds that have been forced to close short positions due to margin calls, the wounds will not heal quickly,” said Yuan Yuwei, founder and CIO of Water Wisdom Asset Management.
($1 = 7.1226 renminbi)
