LONDON/HONG KONG Japan, a frustration for the world's sharpest hedge fund minds for more than a decade, is proving one of the industry's biggest winners this year.
Big names from New York to London have made billions betting that "Abenomics" - the monetary stimulus programme launched under Prime Minister Shinzo Abe - would send the yen sliding and stocks surging.
And funds dedicated to Japanese markets have performed better than others - their percentage return on investments is more than triple the overall hedge fund average this year, according to data from Hedge Fund Research.
Now there are tentative signs that funds are preparing for a more structural shift back into Japan, convinced that if its economy is finally on the road to recovery they can no longer ignore the world's second-largest financial market.
"Japan has been a relatively ignored and underinvested market for a long time," said Nick Linnane, a hedge fund manager at Cube Capital in London who previously worked in Japan and has investments in several Japanese banks. "The consensus now is you need to do your research."
Some funds are dusting off their old contact books to recruit stock-pickers who can grapple with Japan's complex corporate make-up, while more Japan-dedicated funds are opening than closing for the first time since 2007, data from industry tracker Eurekahedge shows.
This reflects the view held by a growing number of funds that there is money to be made in Japan beyond riding the big moves that have followed in the wake of the monetary stimulus.
So far, hedge fund flows into the country sparked by the monetary easing have held up despite a rocky few months as the rally in the Nikkei and the slide in the yen ran out of steam.
"They believe that there is a significant trading opportunity that will last years, not just six months. What has been remarkable has been the interest from U.S. managers," said Michele Gesualdi at Kairos Partners, which chooses hedge funds to invest in.
FEWER FUNDS CLOSING
According to a Eurekahedge survey, the proportion of their money invested in Japan by funds who can trade globally was 9 percent in September, up from 5.4 percent a year earlier.
Meanwhile, funds dedicated to Japan - who cannot dip in and out of the country - are winning back investors, albeit slowly.
After recording net outflows worth $4 billion between June 2012 and May 2013, investors have added $340 million to these funds in the last four months, and total assets have risen to $15 billion from $14.4 billion at the start of the year, Eurekahedge data shows.
Man Group (EMG.L), the world's largest listed hedge fund firm, said last month that its Japan strategy added $2.3 billion in assets between April and September.
The number of Japan-focused funds closing is falling. Three have shut down this year - the lowest level since 2004 - against 21 last year. Eighteen new funds have launched versus 19 in 2012, and more are in the pipeline.
However, talk of a structural shift back into Japan by hedge funds is greeted with scepticism by some managers.
The number of Japan-dedicated funds, whether based in Tokyo or in the larger hedge fund centres of Hong Kong and London, is a fraction of what it was 10 years ago. Between 2006 and 2012 these funds made money in only two years and lost an average of two percent per annum, according to Hedge Fund Research.
Previous predictions that the country's economy was turning a corner have also unravelled amid stubborn deflation and weak consumer spending, sending foreign investors towards the exit.
One of hedge funds' better-known "conviction" bets - that the country's high deficit and an ageing population would eventually trigger a sell-off in Japanese government bonds (JGBs) - has confounded traders as prices have held up.
Events like the 2011 earthquake also undermined confidence.
"Japan has been difficult for managers for so many years. The JGB trade in particular," said Fred Ingham, who invests in hedge funds at Neuberger Berman. "For many players at this stage I'm not sure this is more than a tactical move into Japan."
Still, there are signs that some funds believe this time is different.
Leon Cooperman's Omega Advisors, which runs $9.3 billion in assets, is hiring a Japan specialist to analyse stocks, a source familiar with the fund said. Claren Road has relocated Martin Bercetche, a portfolio manager, to Hong Kong from New York to trade across Asia, one of its investors said.
Meanwhile, Singapore-based APS Asset Management, which manages $3.1 billion worth of assets, is this month taking the manager of its Japan fund on a roadshow to meet investors in the United States and Canada for the first time, a source with direct knowledge of the matter said.
Underpinning funds' growing confidence is a belief that Abe and central bank boss Haruhiko Kuroda will stay the course on pumping money into the economy until deflation is eradicated, and that Tokyo will finally tackle its fiscal deficit.
A healthier Japanese economy will make it easier for funds to pick the winning and losing stocks and bonds and mark themselves out from the pack, managers believe.
"For funds that are global, for years people could look smart by simply avoiding Japan. The reality, now that people are looking at it again, is that you need the expertise," said Gesualdi at Kairos.
(Editing by Carmel Crimmins and Pravin Char)