HONG KONG -- One of the largest China-focused hedge funds has closed up shop, letting go some dozen employees and giving back money to investors.

Dynasty Asset Management came apart amid huge gains this year in China's publicly traded companies. The poor performance of Dynasty's flagship fund widened a rift between the founding partners -- one from the U.S. and the other from the mainland -- who disagreed about how aggressively the Shanghai-based firm should raise money from new investors hot on getting into China.

The firm's unraveling highlights a growing risk for hedge funds in Asia, and their investors. Smaller, more thinly traded markets offer fewer investment possibilities than those in the developed world. The more assets under management, the greater the challenge to find lucrative stock plays.

Dynasty's assets peaked at about $400 million. While it didn't lose money on its investments, its performance suffered in the past two years and previously enthusiastic investors chose to get out. Assets shrank to between $80 million and $100 million when it dissolved.

There have been huge cash inflows into China as the economy has grown. Eurekahedge, a Singapore-based hedge-fund research firm, estimates there are some 60 hedge funds investing in Greater China -- which includes overseas-listed Chinese companies as well as Asian companies that do a lot of business in China -- with between $3.5 billion and $4 billion in assets.

Still, many hedge funds in Asia are start-ups, and rely heavily on fees equal to 20 percent of investment gains. Giant funds, by comparison, can survive more easily in down markets because the standard 2 percent management fee, imposed regardless of whether a fund is up or down, provides ample revenue to keep the business going.

As Dynasty's assets shrank, the principals had little incentive to continue on just the management fee. "We definitely were not making as much money as we expected," says Steve Dai, Dynasty's portfolio manager and one of its founders. Dynasty officially liquidated on June 30.

For investors, liquidation creates, at best, a nuisance, and at worst, a loss of capital, as investors may have to wait for a hedge-fund manager to sell assets, possibly at a loss, before they receive their money.

Several stock-focused hedge funds in Japan shut down this year after stock-market volatility there hurt returns. J.P. Morgan Asset Management's JPM Nippon Neutral Fund and Societe Generale Asset Management's Long/Short Japan fund, both with less than $20 million under management, liquidated in February.

Last year, Hong Kong-based Doric Capital Corp. tested the market by seeding a Japan fund. After the firm had trouble raising money from outside investors, it abandoned the plan and closed the fund.

"It has been a difficult time, in Japan, in particular, because last year was so outstanding," says Michael Nock, Doric's founder. The Eurekahedge Japan Hedge Fund index is down 4.14 percent this year, compared with a gain of 31.8 percent in 2005 -- when the Nikkei Stock Average rose 40.2 percent.

Liquidations are always worrisome, says Chi Hao Lee, Hong Kong-based director of sales at Forsyth Partners (Asia) Ltd., a fund of hedge funds. When partners break up, it is often difficult for investors to ascertain which party was responsible for the firm's initial success, or subsequent demise.

Mr. Dai started Dynasty in late 2000 after he met Ed Mullen through a mutual friend in Shanghai. A Chinese national with a master's degree in physics from Southern Illinois University, Mr. Dai had worked for years as a portfolio manager investing in U.S. stocks for Chicago-based Shepard International, and later, Daisen Financial Corp., a Chicago firm he founded. Mr. Mullen, a former executive at Chicago-based Glenwood Financial Group, had long experience helping fledgling funds raise money from investors. The idea was for Mr. Mullen's marketing skill to complement Mr. Dai's stock-picking expertise.

Both men say they committed a big portion of their personal wealth to the venture, although they decline to specify how much. For the first three years, Dynasty managed around $20 million, Mr. Dai says. The flagship fund -- which invested in large-cap Chinese companies listed overseas as well as in some Asian companies with businesses strongly dependent on China -- returned 106 percent in 2001, and 20 percent and 39 percent in 2002 and 2003, respectively. Eureka Greater China Hedge Fund index, which included the Dynasty fund, returned 77.2 percent, 1.72 percent and 57.1 percent.

Dynasty's success captured the attention of investors. U.S. and European institutions flocked to the fund, hoping to capitalize on the boom in Chinese stock offerings. Dynasty launched a second investment in 2004, the China Opportunities Fund, which focused on small- and midcap Chinese companies and also has been liquidated.

Mr. Mullen embarked on a heavy marketing campaign aimed at boosting assets, people familiar with the firm say, blasting investment banks and hedge-fund watchers with emails. The Dynasty name became widely recognized as the first hedge fund based on the mainland. Around 50 institutions and high-net-worth individuals put money in the firm, and assets exploded.

Suddenly, the firm was struggling to put the money to work. Mr. Dai says he resented having to spend up to six hours a day explaining strategy to a parade of potential investors. Mr. Dai suspects some of the firm's visitors were really competitors masquerading as investors who wanted to dig into the fund's investment analysis.

The flagship produced a lackluster 0.30 percent in 2004, and 3.87 percent in 2005. The Eurekahedge Greater China Hedge Fund index, which includes the Dynasty fund, returned 6.02 percent and 7.45 percent in those years.

The China Opportunities Fund yielded 0.08 percent in 2004 and 9.8 percent in 2005. "The investment team got overburdened," Mr. Dai admits. Investors began pulling out of the fund. Mr. Mullen says the partners disagreed over whether Mr. Dai should have less control over investment decisions. Strife between Mr. Dai and Mr. Mullen worsened.

The partners talked briefly this spring about the possibility of Mr. Dai buying out Mr. Mullen entirely and continuing to run the firm on his own, but they couldn't settle on a price. As often happens, the founders plan to start anew separately.

Mr. Dai is currently weighing his options. Mr. Mullen is starting Emperor Investments, another China-focused firm.