Employing an Asian focused multi-strategy multi-manager investment approach, the MARSA strategy currently has US$170 million under management including seed capital from Macquarie. But MARSA, which has been running since March 2006, is not aiming to become the biggest fund on the street. “We are targeting around US$500 million as an appropriate capacity level for this strategy,” says Toubia. “It is common to see other investment managers managing more than US$500 million in this kind of strategy, but we are very conscious of some of the characteristics of the hedge fund industry in Asia. We have designed a portfolio that generally allocates to 15 to 25 underlying absolute return investments and therefore the overall portfolio capacity of US$500 million is purely a function of the capacity available through these underlying managers.”
The decision to restrict the number of underlying investments in the portfolio, as opposed to growing the assets by adding more managers, is based on the strong belief that the supply of superior managers in the Asian hedge fund industry is limited. “We sought a portfolio structure whereby quality of returns is maintained by not diluting the contribution of the selected investments in the portfolio,” explains Toubia. In the future, if the capacity of the underlying managers were to increase, then the overall portfolio could eventually grow beyond US$500 million. “Capacity,” says Toubia, “is a function of the liquidity of the markets, the opportunity set in those markets and the investment capability of the underlying managers. Therefore, capacity is a moving target and a function of thesethree factors.”
In addition to the traditional considerations of manager selection and strategy choice, Toubia believes that to manage a pool of capital effectively in Asia sufficient regard must also be given to individual country dynamics. “What we like about Asia is that it is not one region. Rather, it’s a collection of three or four sub-regions each of which has its own set of risks and opportunities.” For example, exposure to Japanese equities (through equity long/short disciplines) was de-emphasised from the outset based on a clear appreciation of the country’s dynamics. “In the case of Japan, we always felt that it is not a question of direction, it is one of degree and that although Japan is moving in the right direction, the pace is slow. The most disappointing aspects have been the lack of political commitment to economic reform and the lack of any convincing evidence that the domestic economy is turning around.” says Toubia.
Toubia sees advantages in an investment approach in Asia based both on alternative strategies (compared to long only investment approaches) and a multi-manager concept (rather than direct investment in a multi-strategy fund). “A long only approach precludes participation in multiple investment opportunities that exploit the inefficiency and volatility of Asian markets,” he suggests. “In 5 to 10 years time, if Asian markets become more efficient, then a wider array of long only investment avenues may be a more efficient path to exploiting the opportunity. But right now, you would be precluded from a lot of opportunities and be confronted with a higher drawdown profile if you solely express your Asian exposure using long-only investments.” The drawback, in Toubia’s opinion, with the multi-strategy Asian hedge funds currently available is that they have their roots entrenched in only one or two investment disciplines, making it difficult to express a fully diversified range of sources of risk and return.
MARSA offers a balanced approach to the Asian opportunity set and hence emphasises a range of investment disciplines that go beyond traditional equity long/short strategies. (See Figure 1). “In Asia, there are complimentary investment strategies that take advantage of some of the structural features of the region whose return potential is healthy and offer different risk-reward characteristics to equity long/short disciplines” explains Toubia. For example, volatility and relative value strategies represent an increasingly important part of the portfolio in order to take advantage of the significant price swings in Asian markets. Secondly, event-driven and special situation investing allows the portfolio to exploit opportunities in distressed and corporate restructuring situations as well as the private transaction space. Lastly, tactical trading strategies capture opportunities in interest rate, currency and commodity markets.
In assessing the optimal strategy mix, MQ Capital focuses on the structural drivers of an investment opportunity. “The way we think about Asia is very much driven by whether there is a structural backdrop that provides sustainable opportunity for a strategy over a period of one to two years.
We think about the opportunity from a structural and thematic standpoint.” For example, when considering country dynamics, a number of factors will drive this assessment, ranging from a country’s commitment to political and economic reform, the initiatives taken at a corporate level to maximise shareholder value, levels of inefficiency and the risks relating to political stability and the rule of law, through to the level of sensitivity to macro factors.
The fund aims to achieve annualised double digit returns over the medium term, with annualised portfolio volatility in the range of 5 to 8 percent. “We want investors to view this investment as an all-weather opportunity, one that is able to capture the opportunity in Asia, but with a manageable downside.” Toubia recognises, however, that a fund of funds manager cannot rely purely on his underlying hedge fund partners to deliver the required risk management profile at the portfolio level. This is because Asian markets can exhibit significant price gaps and liquidity can evaporate. “Being reactive in Asia is not sufficient, there needs to be a proactive element too,” he says. Through a combination of proper portfolio construction and selection of managers with sound risk management philosophies, MARSA aims to strike the right balance.
The desire to exploit the information asymmetries and inefficiencies of Asian markets puts a premium on working with managers with a local presence. Toubia believes that for the corroboration of opportunities and a true understanding of the risks and motivations behind any particular course of corporate action, a local presence is essential. This is particularly true as you move down the market capitalisation list and traditional equity analysis becomes thinner on the ground. All but two of MARSA’s current managers have a local presence and Toubia follows a clear rule that “the only exceptions where it is tolerable for a manager to operate outside Asia is where the investment discipline is very top-down or macro oriented, or where the expression of that strategy is through mega and large cap stocks that are widely covered by the analyst community and where no information edge from being located in Asia exists.”
The end result of this approach is a fund that has produced an annualised return since inception of 14.52% with an annualised volatility of 7.89%. Furthermore, during periods of negative Asian equity market performance, the fund has outperformed the MSCI AC Asia Pacific USD index. (See Figure 2) “This is a very deliberate outcome,” says Toubia. “Part of our objective is to control and manage the downside associated with the Asian region and this has implications both for how the portfolio is constructed and how managers are selected.”
In choosing its managers MARSA emphasises the need to differentiate between managers with the ability to extract returns in a variety of market conditions, compared with those who simply take advantage of bull markets. Part of this process is to identify managers with a deep knowledge of Asian markets and experience through different market cycles who can offer a disciplined investment process capable of generating sustainable returns, while remaining sufficiently focused on downside risk management.
Toubia expects potential investors to take a similarly rigorous approach to investing their capital in the fund as MARSA takes in selecting its managers. MARSA is targeting sophisticated investors who recognise the opportunity in Asia, but who also understand the complexity and challenges of investing in the region. These potential investors range from family offices through pension funds to institutional asset managers. The common thread among them, according to Toubia, is recognition of the value of working with someone on the ground in Asia who has the market knowledge and ability to conduct proper due diligence and who understands the risk extremities in Asian market cycles. The credit crunch has delayed the entry point into Asian markets for some of these investors, but equally says Toubia, “Others recognise that the region’s growth dynamics are real and that recent price dynamics present a better investment entry opportunity for medium-term investors”.
In summing up the philosophy, Toubia returns to the question of size. “This is not an asset raising exercise. We are looking to provide a good investment with proper characteristics.” So far, it appears that good things do come in relatively small packages.
George Toubia is Chief Investment Officer of MQ Capital Pty Limited. He holds a Bachelor of Business Degree (Distinction) from the University of Technology Sydney and a Graduate Diploma in Applied Finance and Investment from the Securities Institute of Australia. From February 1994 to June 1995 he worked with treasury and debt market traders at Bankers Trust Australia Limited and between July 1995 and July 1999 he played a leading role in establishing the corporate portfolio management function at Bankers Trust. Since the acquisition of parts of Bankers Trust Australia by Macquarie in 1999, Toubia has been instrumental in providing the bank’s clients with access to hedge funds, and the first investment in Asian focused hedge funds was made in 2002.