Asian hedge funds might be in better shape than their peers elsewhere, but the crisis has reinforced the point that the industry needs to be more choosy about its sources of funding.

Pre-crisis, a lot of funds focused on the asset side of the balance sheet, but never really focused on the funding side, said Kenneth Ng, Bangkok-based chief executive of NT Asset Management at AsianInvestor's SE Asia Investor Forum in early December.

They have tended to rely heavily on fund of fund money, a significant amount of which was, in hindsight, obviously hot money, added Ng, whose $100 million fund is long-only absolute-return and invests in small- and mid-cap Asia ex-Japan names. One lesson learnt during the Asian financial crisis of 1997-98 was that the funding base is often as important as the investment side, he said, speaking on a panel chaired by Peter Douglas, principal of Singapore-based fund of funds GFIA.

Good loans extended by financial institutions to strong companies could go bad because loans were recalled by other financial institutions too quickly, said Ng. In the same way, good investments were forced to be sold down when funding was withdrawn, resulting in fundamental and technical value being ignored.

This may mean that managers will have to be more selective about the funds they accept, he said, adding that improved transparency and clearer investment strategy can help to better match investors to strategies. As a result, funds may have to be smaller than in the past and focus less on asset gathering and more on transparency and accountability and on improving communications with their investor base.

Annie Yangeksakul, Bangkok-based Asian consultant at $3 billion New York multi-strategy fund Corbin Capital, agreed that asset-liability matching is crucial and that funds are likely to remain smaller in the future. "I've been impressed that a number of hedge fund managers have set reasonable target AUM sizes and have kept to them, closing at the AUM they said they would," she added. "We all learned a lesson from last year. Small and nimble is often good."

On the other hand, there's a higher barrier to entry in Asia from a hedge fund infrastructure point of view, said Phil Tye, chief operating officer of Hong Kong-based multi-strategy fund DragonBack Capital. Investors have higher expectations and requirements of Asian hedge funds now, following the much reported scandals of the past year-and-a-half, as well as the fact that their investors tend to be more institutional. This means start-ups tend to require more significant infrastructure than they used to.

Nonetheless, the panellists were all upbeat on the prospects for Asian hedge funds. Tye is very optimistic about the ability of Asian managers to raise capital in 2010 onwards, for a couple of main reasons. Firstly, a lot of global allocators are realising they are underweight Asia and will look to address that; and second, institutional investments in alternatives looks set to rise.

It will also help that Asian hedge funds have benefited from a greater tendency to return money to investors than some elsewhere, said panellists. "When we genuinely had liquidity, we did return capital," said Tye. "That sounds intuitive, but a lot of managers didn't do it."

Yangeksakul made a similar point. Asian hedge funds were much more investor-friendly last year than those in the US or Europe in terms of gating, side-pocketing and so on, she said. That has generated a lot of longer-term goodwill and confidence in the professionalism and seriousness of the Asian hedge fund players, added Yangeksakul.

She feels the Asian hedge fund industry will grow next year in both size and number of funds, given that a lot of money is waiting to get back in. The regional industry shrunk quite a bit last year due both to returns but also to large withdrawals, given the liquidity-friendly terms of some managers, said Yangeksakul, so the return of old money, plus the arrival of new money will lead to growth.