Connecticut-based hedge fund Phalanx Capital Management plans to open an office shortly in Tokyo. Two traders are being added to the portfolio management team who will join that Japanese office. Names of the new arrivals have not been released yet, but it is understood that one is a convertibles and equity product trader with a 20-year track record, and the second will be a special situations equity trader with 15 yearsÆ experience.

At its peak the Phalanx fund had assets under management of $50 million. It now stands at $15 million. In 2007 the fund has had positive returns in every month except March, at which time redemptions required positions to be closed out. In April the fund was up 6%.

PhalanxÆs drawdown of 15% in November 2006 was caused partially by the Aozora Bank IPO, whose share price immediately fell by 13%. Alongside this occurred a more general sell-off in implied volatility which hurt PhalanxÆs strategy. Nikkei volatility decreased from 22% in June 2006 to 12-13% by December 2006. In the options market, a sell-off took place, but with no accompanying rise in volatility.

Convertible portfolios sold off dramatically in November 2006, and that overhang continued into December, continuing to affect Phalanx with a 2% drawdown in that month. That took the lustre off an otherwise good year, in which the fund was up 25%.

A fund-of-hedge-funds investor running a low-volatility product subsequently withdrew funds from Phalanx in March, as did a handful of fast-money investors. There is a one-year soft lock-up in the fund with a break fee for early redemptions.

As well as building its Tokyo office and beefing up the portfolio-management trading desk, Phalanx is making some refinements to its day-to-day multi-strategy approach. It will decrease the volatility of its product by focusing on convertibles and event-driven trades. It will increase statistical arbitrage and de-emphasise long/short trading.

Chris McGuire and Neal Brauweiler, who had both formerly worked at Daiwa Securities, founded the Phalanx Japan Australasia Multi-strategy Fund in April 2005. The fund won AsianInvestorÆs award for best hedge fund start-up that year.

In its first year, the Phalanx fund was up by 152%. As so often happens in baseballÆs major leagues, one seasonÆs ærookie of the yearÆ finds that the sophomore year can be tougher and more volatile. Phalanx, named after the impenetrable military formation of the Spartan heavy infantry, plans to soldier on.