Green Asia

China’s hedge funds boost returns, and risk, using broker books

SHANGHAI/SINGAPORE : Some Chinese hedge funds are making a killing in the country’s flagging stock markets by using an increasingly popular leverage and derivative strategy that also helps them skirt regulatory borrowing limits by having trades sit on brokers’ books.

The DMA-Swap strategy is unique to China, born out of efforts by hedge funds and brokers to make money in a tough economic environment.

Annualised returns of some DMA-Swap products exceed 150 per cent, an eye-popping contrast to a domestic stock market that is down more than 4 per cent so far this year.

Those returns have spurred a social media outcry against funds profiting from dire market conditions. Regulators are probing brokerages for data around Direct Market Access (DMA), two sources told Reuters last week.

In a typical deal, hedge funds deploying long-short equity strategies buy shares and sell stock index futures with borrowed money through DMA, which gives them access to the electronic facilities of financial market exchanges. The swap, wherein funds get to reap gains from the trade, while brokers earn interest, sits on the books of brokerages.

Analysts say the practice, which allows hedge funds to borrow up to $4 against $1 of margin, could spell trouble if the bets go awry. The combination of heavy leverage and sudden, unexpected market movements could burn investors, hurt brokerages, and trigger market disorder, they say.

“Some hedge fund managers are making bets with excessive leverage,” said Yang Tingwu, vice general manager of asset manager Tongheng Investment.

Asset management rules stipulate that a fund must not borrow more than $2 against $1 of margin, which is the capital it places with the broker. But in a DMA-Swap, the trade counts as a proprietary one for brokers, who aren’t subject to the same constraints.

A DMA-Swap typically involves short trades on index futures against buying a basket of stocks, but such hedging may not be effective, said Wang Qian, finance professor at Tongji University.

“DMA Swap involves extremely high leverage and investors should be wary.”


There’s no official data on the total size of DMA-Swap products in China, but major brokerages have ramped up the business in recent years to expand revenue base.

“There’s demand for DMA from investors. There’s demand from brokerages too,” said a quant hedge fund executive in Shanghai in defence of the strategy.

“Leverage is a good thing, as long as your position does not implode,” said the executive, who is not authorised to talk to media.

Citic Securities piloted a so-called “return swap” business in 2012, which allows brokerages to swap investment returns for fixed interest income, creating a handy financing tool for hedge fund managers.

Concerned about risks, Chinese regulators in late 2021 tightened rules that in effect barred brokerages from financing fund products using such a structure.

A boom in DMA-Swaps followed.

DMA Swap “is in essence margin business designed to skirt rules” and is unique in China, said a derivative expert who declined to be named due to the sensitivity of the topic.

Overseas, “prime brokers would offer their hedge fund clients both DMA and leverage,” said Lyndon Chao, managing director and head of equities and post-trade at financial lobby group ASIFMA. But “it’s not a feature of DMA to provide financing.”


A private fund launched by quant fund manager MX Capital uses borrowed money to buy a basket of stocks, while shorting CSI 1000 index futures to extract gains from the price difference, according to its product brochure seen by Reuters.

By placing a deposit of 10 million yuan ($1.37 million), the fund can build 40 million yuan worth long positions and 40 million yuan of short positions, it said. Since the fund’s May 24 launch, it had as of July 28 achieved a return of 19.41 per cent, or 151.6 per cent on an annualised basis.

Other hedge fund houses selling DMA-Swap products include High Dimension Investments, Super Quantum Fund, Qianyan Hedge Fund, Hawk Investment and Ruitian Capital, according to marketing materials from wealth managers.

Major brokerages appear eager to finance and facilitate the strategy.

Shenwan Hongyuan Group Co, Everbright Securities, and Citic Securities have all said that they would accelerate growth of OTC derivatives, which include DMA-Swaps, to expand beyond traditional businesses.

MX Capital and Everbright declined to comment. Other fund houses and brokerages didn’t reply requests for comment, nor did the China Securities Regulatory Commission (CSRC).

Tongheng Investment’s Yang said “innovative” brokerage businesses had caused many of China’s past market ructions.

“Leverage was the culprit for China’s 2015 stock market crash. It also contributed to the stampede in ‘Snowball’ derivative products in 2022,” Yang said. “There needs to be tighter regulation.”

($1 = 7.3070 Chinese yuan)

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