Slowdown in China Chill Equity Investment Firms

The Chinese PE and VC Markets Falter Amid Awakening

Economy and a Freeze on IPO's.

by Terry Stidham

 

 

Zero2IPO Research Center reports that in the first half of 2013 $7.83 billion was raised by equity investment funds related to China marking the first decline in investable funds into the mainland market from this sector.

 

The report said 516 deals were made in the first half of the year, down 45.2 percent year-on-year value of the deals fell 20.9 percent to $9.9 billion.

 

Although activity by PE and VC investment firms has shown signs of a revival since the second quarter, the slowing economy and difficulties in exiting investments are keeping the overall condition from improving.

 

"Another important reason for the decline was the fierce competition among PE and VC firms, which made deals much more expensive," said Luo Yu, an analyst at Zero2IPO Research Center.

 

Luo said firms are proceeding more slowly and paying closer attention to their distinct advantages.

 

Only 73 exits were made in the first half, including 27 through mergers and acquisitions, 15 by equity transfers and 13 via initial public offerings. It was the first time that M&A deals were more popular exit strategies than IPOs.

 

Wang Chaoyong, chairman and chief executive officer of China Equity Group, said exit strategies are still the key issue for PE investors and the resumption of IPOs will be important in the second half.

 

Shan Xiangshuang, chairman of CSM Group, a major Chinese PE company, welcomed the coming IPO restart and said that the Chinese PE and VC market is undergoing a transformation.

 

"When the macro economy and market are changing, many PE and VC firms are trying M&As to exit and participating in the securities and insurance markets," said Shan.

 

IPOs are "still the main way to exit. Without exits, we could not have investment returns, and then not be able to raise new funds", said an investment manager at a large Beijing-based PE firm, who declined to be identified.

 

According to the China Securities Regulatory Commission, 83 companies have passed the examination of the agency's IPO committee and are waiting for the market to give an indication of their valuations.

 

Of this group, 50 are backed by 101 PE and VC firms, according to China Securities Journal.

 

 

Investors Move into the Hedges

Follow the Money

by Terry Stidham, President of Target Search Group

Q1, 2013 funding for VCs and for Private Equity are up and according to Hedge Fund Review, hedge fund industry assets surged by $122 billion to a record $2.375 trillion, with the top ten funds receiving the majority of the new capital. John Van, VP of Van Hedge Fund Advisors reports that, “The average U.S. hedge fund is up 4 percent through March, while the average equity mutual fund is up only 1.7 percent”. 

Investors like the performance of late along with the flexibility hedge funds have to make among a broad set of short-term investments.  Many strategies are being used (long/short equity, credit, macro, statistical arbitration, etc) with trades lasting from milliseconds to years.  Most hedge funds are staying in relatively liquid securities so that they can trade out at any point in time to lock in their profits.

Sondra Harris gives us the following 8 Reasons Why the Hedge Fund Industry Deserves a Second Look in 2013 that she picked up from Michael Collins at the Investment Management Institute earlier this month:

1. Managers are better than ever - With the froth of the ’90s over, we are seeing less of the accompanying frenzy that had people putting money into hedge funds without really knowing what they were getting.

Today there is an expanding group of good managers, a better crop than we've ever seen, so the quality tends to be good, and because of the various market forces at work, their fees are going down. 

2. Correlations in markets are down, and that’s a strong tailwind for hedge fund strategies - The high market correlations in recent years contributed greatly to dampened hedge fund returns. That’s changing. Spikes in correlation over the last 18 months are far shorter. That gives managers some breathing room and prevents whiplash. They can put on the trades, make a profit and move on. This type of environment should help raise the tide for all hedge funds.

3. Hedge funds are good bond alternatives - This is even more important for institutional investors like pension plans. They know that holding a portfolio with a 30/40 percent traditional bond allocation may be a potential time bomb. The free ride on their bond portfolio for the last 30 years is over. They’re all focused on it. Good hedge fund managers will either avoid unattractive bonds completely or profit from the inevitable sell-off.

Hedge funds can do very well in those sell-offs. Managers can short or actively trade a hedged portfolio of bonds, whereas, traditional bond funds cannot. Increasingly, investment advisors are substituting a diversified portfolio of hedge funds for part of their traditional bond allocation.

4. Holding periods are shorter; manager expertise is deeper - Geopolitical shocks and general market sentiment are driving hedge funds away from longer duration holding periods. Managers are using a variety of trading strategies, not just putting the position on, taking it off and going on to something else, but being able to trade it both ways and do that very profitably.

They can do this nowadays by relying on markets with deeper liquidity. This is good for individual investors, as well, whose own time horizon has come in dramatically in the last couple years.

5. It’s a buyer’s market for hedge funds - In general, redemption terms for all of the very best performing hedge funds will become more favorable as all funds are going to have to compete for assets. Frankly, it’s become a buyer’s market. Again, a good thing for investors. It also means more liquidity. In fact, liquidity has become as important an indicator as performance when evaluating hedge funds.

6. The general landscape for hedge funds will become even more populated - This will happen as the number of options for new and creative ways to trade and manage risk becomes more sophisticated. Investors who want to add hedge funds to their portfolios will need help from their advisor in selecting managers who can build a dynamic and diversified portfolio.

7. Fundamental long-short managers are paying a lot more attention to technical indicators - Traders have acquired new tools and quicker access to more data over the past couple of decades. These modernizations of hedge fund trading can improve managers’ abilities to protect their capital should the unexpected shock occur. Frankly, as we’re all beginning to learn, tail events seem to be the new normal. The good news is that the managers are even more aware and prepared to adapt quickly to different environments.

8. We’re seeing more and more hedge fund mutual funds - This used to be considered an oxymoron. It’s now becoming a necessity, driven by demand from investors who want even more transparency. They also want more liquidity, daily liquidity. They want daily NAV. 

The funds that demonstrate performance and innovative strategies will continue to attract the bulk of the investors. Other major investor considerations are:

• Investment Objective: Is it lower volatility, enhanced return, less correlation to other investments, etc?
• Structure: Is the fund have a single manager / strategy fund to build out an allocation or is it a fund of funds?
• Team: What is the makeup of the investment team in terms of diversity, experience and history, and the culture of the overall organization?
• Sophisticated Risk Management: Is risk management an independent function that provides checks and balances to the investment process?
• Operations: Does the fund have a sound operational infrastructure backed by dedicated support groups (e.g. legal, technology, due diligence) to allow the investment team to focus solely on investing?
• Improved Transparency 

Terry Stidham is the President and founder of Target Search Group. He is a Business Development Leader with extensive knowledge of the M&A process, combined with an in-depth understanding of the constantly changing global capital markets environment.  He has served as the head of entrepreneurial organizations as well as Fortune 500 companies.  He specializes with mid-market companies in a diverse array of industry sectors from service and manufacturing to technical and professional firms.

Mr. Stidham speaks the language of both the seller and the buyer having vast experience on both sides of the transaction. He has been directly involved in the execution and successful closing of hundreds of investment banking and corporate finance transactions.  Mr. Stidham has been instrumental in aiding thousands of business owners prepare their businesses for eventual sale by teaching them how to maximize efficiencies in operations leading to significant increased cash flow.