Asia credit investors feel the pain of China property exposure

China’s crisis-hit property sector has driven underperformance this year in some Asia-focused credit funds, including one led by a former Lehman Brothers portfolio manager, pummelling their returns and bringing years of gains to a juddering halt.

Hong Kong-based L&R Capital’s Asia Credit Alpha Fund, a hedge fund with more than half of its geographical exposure focused on China, slumped by 18.9% in 2022 as of end-May.

The fund, led by former Lehman Brothers portfolio manager Li Ran, retreated another 4% in June. The downbeat performance looks set to end the fund’s four-year winning streak since inception, showed the documents.

Its losses were partly a result of its exposure to Chinese property developers as sector-wide pain engulfed even companies with stronger credit profiles, according to the person.

The fund’s exposure to the overall property industry shrank to 22% by the end of May from 33% at the beginning of this year, the documents show.

L&R’s performance rout shows how even seasoned investment managers are struggling to navigate China’s devastating property sector crisis.

China’s property sector, a key pillar of the world’s second-largest economy, has lurched from one crisis to another and has been a major drag on economic growth over the past year. It has seen a string of defaults by debt-squeezed developers.

Prudence Investment Management, a Hong Kong-based hedge fund specialising in China-related credit investments, saw its flagship fund drop 2.5% by end-June, a performance described as “decent” by peers.

The fund managed to pare some losses after March as it turned more neutral on the property sector and diversified to other areas, according to the person.

L&R Capital did not respond to queries. Prudence declined to comment.

All the sources declined to be named as they were not authorised to speak to the media.

Kenny Chung, portfolio manager of Astera Capital Partners, which manages a Hong Kong based fixed-income hedge fund, said he hasn’t seen “a more challenging investment environment for at least 10 years”.

The fund managed to return 4.2% by June, mainly benefiting from net shorting China property developers early in the year and diversification to other regions later.

The damage in the mutual funds space has been just as severe.

The biggest 10 Asian high-yield mutual funds have posted hefty losses, all above 25% by the end of June, partly hit by their exposure to Chinese property developers, data compiled by Morningstar showed.

The Fidelity Asian High Yield Fund saw its size shrink by 40% this year to $2.4 billion at end-June, as its returns crumbled by 34.2% in the first six months.

Its China exposure stood at around 31.2% by the end of June, compared to 37.9% at end-December, the data showed.

Fidelity did not respond to queries.

“Before the crash of the Chinese property developers, all of these Asian high yield funds were very heavily invested in the sector…those trimmed their China exposure earlier this year have fared better,” said Patrick Ge, senior analyst with Morningstar.