BEIJING (BLOOMBERG) – China’s army of tiny hedge funds are pulling further ahead of their better-known foreign competitors with outsized gains helping them attract more assets.

The nearly 15,000 funds offered by Chinese managers returned 30 per cent on average last year, with the best-performers surging 10-fold, according to Shenzhen PaiPaiWang Investment & Management. That dwarfs the average 12 per cent gain for hedge funds globally.

The out-performance is another impediment to global funds such as Bridgewater Associates and Two Sigma, which have struggled to make inroads into China’s 3.8 trillion yuan (S$783.9 billion) hedge fund market since it was opened to foreign firms four years ago. Local funds added a record 1.3 trillion yuan (S$268 billion) in assets last year.

“Foreign players are handicapped in China,” said Yan Hong, director of the China Hedge Fund Research Center at the Shanghai Advanced Institute of Finance. While many global funds are “patient” given the potential riches of cracking the Chinese market, their persistently small size adds to regulatory constraints, “making it hard for them to distinguish themselves.”

China’s early economic recovery from the pandemic fueled rallies in stocks and commodities, lifting returns across all eight hedge fund strategies tracked by PaiPaiWang. Macro funds, which trade across asset classes, were the best-performer, returning an average 41 per cent, compared to the global average of 10 per cent.

Shenzhen Qianhai Jianhong Times Asset Management added leveraged bets on stocks seen to benefit from the pandemic, such as glove makers and office supply companies shortly after the outbreak, then later made early dives into consumer stocks and vaccine makers as growth started to stabilize, according to China Times. Its Jianhong Absolute Return No. 1 fund ended the year with a 831 per cent return, the best among stock funds, according to PaiPaiWang.

Only three of the 32 foreign firms that have won a licence to operate in China’s hedge fund market – UBS Group and Winton Group – have garnered more than 2 billion yuan at their onshore private fund businesses – a key condition to be allowed to access the interbank bond market that’s crucial for bond and macro strategies, according to Yan.

Their small size also makes it harder to win distribution deals from banks, the biggest source of new clients, Mr Yan said.

The lack of scale also hampers foreign funds’ access to markets such as over-the-counter options because they can’t meet Chinese brokerages’ requirements for assets under management, according to Allen Wang, a senior lawyer at Fangda Partners.

Top quants

Meantime, the number of local hedge fund firms with at least 10 billion yuan in assets more than doubled last year to 63, according to Licai.com. Growth is most impressive among quant funds, with the four biggest tripling assets last year, according to Chinafund.

“Money is increasingly gravitating toward the biggest players, with the top 10 per cent soaking up most of the inflows,” said Liu Ke, head of research at Hengtian Wealth Management. “The trend is accelerating.”

While some foreign quant firms are attracting strong inflows with offshore products that invest in China, they are struggling to win recognition onshore as the under-performance of their fundamental-driven strategies last year further erodes the appeal of their already short track-records, according to Qiu Huiming, founder of Shanghai Minghong Investment Management.

“Although foreign managers have stronger name recognition globally, the past two years showed that Chinese quant players still have the edge so far,” he said.

Chinese quants also further honed their machine-learning skills, with such funds tracked by Howbuy Wealth Management beating mainstream multi-factor strategies by 12 percentage points.

Minghong’s assets doubled last year to about 60 billion yuan, making it China’s largest quant fund. Its offshore market-neutral product, which also invests in China, returned 32 per cent last year, beating the global average of 3.4 per cent, according to Eurekahedge.

Still, “it’s not a game where success is determined in the short-term,” Mr Yan said. “As policies loosen further, foreign players’ advantages could gradually emerge.”