Hedge funds fight image problem in Russia

The history of hedge fund managers being reluctant to set up in Russia continues, despite evidence that this type of product may be the best way to protect local investors against volatility.

Russia took almost half a century longer to launch its first hedge fund than its global peers.

Official legislation on hedge fund investing was introduced in Russia as late as 2007, but some investment managers had caught onto the idea of hedge investing long before that. The Diamond Age Russia Fund claims to be the first Russian hedge fund, launched in 1996 with over $20m in assets.

But the universe of Russian funds remains small. The HFRI Russia and Eastern Europe Index encompasses around 50-60 underlying fund constituents. In comparison, HFR estimates the total number of single strategy hedge funds in the world stood at 7,768 in the second quarter of 2012.

Definition question

Many market participants also question the definition of a Russian hedge. Some claim managers call their Russia-focused funds “hedge funds” due to high market volatility, when in reality they are simply long-only funds charging hedge fund-like performance fees.

Dimitri Kryukov, partner at Russian hedge fund Verno Capital, says: “In such a volatile environment, where you want to protect your capital, hedge funds are the best way to invest.”

He attributes the lack of hedge funds in Russia to the many misconceptions about the country.

“People ask if you can buy options, if there is a futures market? I had no problem shorting a stock back in the 1990s and it is relatively easy and cheap to hedge exposure if you know what you are doing.

“Up until a couple of years ago people thought the only option to invest in Russia was through a long-only strategy. That is great if the market is doing well, but not in the current conditions.”

Kryukov is the most experienced hedge fund manager in Russia, having celebrated his first decade in the sector this year. In 2002, he co-founded the hedge fund Kazimir Partners with Frank Mosier.

“Back in 2002, when [they] launched Kazimir, no other manager offered a product that would capture the upside of the market while attempting to limit the downside,” he remembers.

“In 2008, the RTS Index collapsed more than 70%, but our capital preservation strategy worked.”

The flagship Kazimir Russia hedge fund lost 39% – much less than the index. By 2009, the fund was making 30% annualised returns again and gained 450% net of fees from inception to the end of 2008, beating the 92% of Russia’s RTS Index more than fourfold.

In 2009, Kryukov left Kazimir to set up Verno, a Russia-focused hedge fund with a similar strategy. To end-July, the fund is up 11.58% against the 0.33% losses of the benchmark RTS Index. In comparison, the average hedge fund manager globally has returned only 5% year to date, according to Goldman Sachs.

The Verno fund is focused on capital preservation. Kryukov describes the investment approach as “multi-strategy.” It is split into four different areas.

The first stage is fundamental research, taking a mid-term view of around 6-18 months.

Then comes the special situations book, a sub-set of the fundamental book which takes a longer view, typically 12-36 months, to pick companies isolated from global market volatility.

The hedging process that follows allows the fund team to manage risk by buying downside protection and determining the appropriate level of exposure to each investment theme at any one time.

The last is the trading strategy, which lets the fund take shorter term positions, typically with a one-two month view.

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