One of the largest Beijing bears in the hedge fund industry, Kyle Bass, has reportedly set up a strategy with 200 times leverage betting on the collapse of a peg installed at the current range since 1983.
Dallas-based Hayman Capital Management set up the fund using options contracts to achieve the 200 times leverage, according to a «Bloomberg» report citing unnamed sources. The strategy is designed to generate major gains if the Hong Kong dollar weakens against the U.S. dollar beyond the peg and up to a complete loss, if not. The strategy is investing based on an 18-month time horizon.
The new fund includes a two-year lock-in and a one-time management fee of 2 percent. If net returns exceed 100 percent, a 15-20 percent performance fee will be added.
Bass reportedly told investors that a 64-fold return could be achieved if the currency declines by 40 percent.
Foreign Currency Demand
The current peg is based on a narrow trading band of one U.S. dollar to 7.75-7.85 Hong Kong dollars. The Hong Kong Monetary Authority has continually provided assurances about its will to defend the peg and even stated that a currency swap line with China was at its disposal if required.
«The uncertainty will likely create capital changes, or at least like what we saw last year, where some HK dollar deposits are converted into foreign currencies,» said Frank Lee, an investment strategist with DBS, though he added that there was no real impetus for outflows.
Indeed, money changers were reportedly overflowing with business as Hong Kongers rushed to convert their local currency into greenbacks also because of a bearish view on the peg. One owner of a small shop claimed he unwillingly turned away 600 customers after weekly demand increased 10-fold earlier this month.
Beijing Bear
Bass’ initial success was based on successfully predicting and betting against the U.S. subprime mortgage crisis via credit default swaps. Since then, he has been a Bass is a vocal critic of Beijing and has also made related bearish bets, though they did not fully materialize, for example, on the yuan.
His newly established strategy – one he claimed was inspired by Hayman Capital’s largest client who was not named – marks a historical milestone of sorts, as it would join George Soros and his 1997 attempt to do the same though ultimately failing due to a very determined central bank in Hong Kong at the time.
Still, markets are currently not expressing full confidence. Options data from Bloomberg indicate that markets are pricing a 6 percent chance that Hong Kong dollar will break the peg and the 7.90 level in 12 months.
