The rise of sovereign wealth funds -- a new dimension in world financial markets
Wednesday, 13 February 2008
Md Ziaul Haque Khondker
Among the several shifts in the structure of global financial markets the most striking has been the emergence of the sovereign wealth funds, as they are called.
The sovereign wealth funds (SWFs) are investment funds generated and controlled by state authorities. The first SWF was perhaps the Kuwait Investment Authority set up in 1953. Some countries particularly Middle-Eastern countries have earned a huge amount of reserves as a consequence of the surge in oil prices. Flush with these surpluses, these countries have set up dedicated funds for off-shore investment. But some recent investment deals, particularly in 2006-2007, made by the sovereign funds raised eyebrows in the developed countries and captivated notice of financial policy makers giving rise to various types of speculation. Some countries which have so far established sovereign wealth funds are the following:
The investment style and strategy of these funds have already stirred not only a lot of interest, but also intense debate. According to the current estimates about US$ 3.0 trillion are at the disposal of the sovereign wealth funds of the emerging countries. China, the UAE, Kuwait, Saudi Arabia and Singapore being flush with surplus funds have been active with investment in the London Stock Exchange and in NASDAQ in the USA as well as in other companies, banks/financial institutions. Projections by investment bankers indicate that the sovereign funds will be able to amass fund in the range of US $ 15-20 billion by 2015. This almost matches the total market capitalisation of US $ 15.42 billion (2006) on NYSE and is about one fourth of total value of shares traded world-wide. The projected sovereign wealth fund is also most likely to dwarf the total fund available with the hedge funds. This resource power demonstrates that these funds may have the strength to wield considerable influence in the financial markets globally. As such, they will have a very wide choice of investment in varying degrees.
The recent developments marked conspicuous shift in the investment style of these funds. Traditionally their investments were mostly in natural resources including oil and metals.
With the globalisation of financial markets accompanied with huge surplus funds and growing dominance of financial market in global political economy, these govts. have now realigned their focus on financial markets. Their investment in the financial area now stretches from treasury securities to private equity entities. All these trends have created worriness among some developed countries. Even as they benefit from the investment in their countries by these funds and the concomitant liquidity injection they are debating the proliferation of the funds in their markets. While these funds persistently finance U.S. budget deficit, a group of financial experts are sounding alarms that the funds ultimately might dictate financial market movement in the future and diminish the dominance of the developed countries which had been the feature in the last several decades.
There has been mounting demands to enact rules, regulation and guidelines to govern these funds For example, Angela Market, Chancellor of Germany advocated for formulation of new rules to regulate their investment. The European Union has already drafted nonbinding guidelines for the SWFs.
In the recent times, these funds have not only acquired substantial stakes but also bailed out several financial institutions which incurred losses and had to write-off large amount of money as a result of sub-prime mortgage debacle.
The following are examples:
(a) Temasek, the wealth fund of the Govt. of Singapore had acquired some stake in Shin Corporation, one of Thailand's big telecom companies.
(b) Tamasek also bought new stock worth US$ 5.0 billion of Merril Lynch, one of the biggest investment banks. It also has a 18% stake in Standard Chartered, the British Bank.
(c) Singapore's other lesser known government fund, Govt. Investment Corporation invested US $ 9.7 billion for 9% stake in UBS.
(d) China's Investment fund invested US$ 3.0 billion in Blackstone, a New York based private equity firm.
(e) Abu Dhabi Investment Fund bought a 4.9% equity stake in the Citigroup for US $ 7.5 million. This investment strengthened the capital base of the group which fell to a very low level. This, along with other measures, allowed the group to rescue its several affiliated investment funds.
(f) Dubai International Capital whose investors include the Emirates ruler acquired shares in Sony (Japan), European Aeronautic Defence and Space (EADS), (Manufacturer of Air bus), HSBC, Tussauds and Travelodge Hotels. This fund buys stakes in the range of US$ 500 million to 1.5 billion in the 500 biggest publicly traded companies. The Dubai fund generally holds stocks for about five years and seeks annual returns of 15 per cent.
(g) It also invested US$ 5.0 billion in Morgan Stanley.
(h) Kuwait Investment Authority, a sovereign fund, has also acquired a stake in the Citigruop.
The SWFs have invested more than US$ 50 billion in troubled banks. The recent spate of acquisitions of substantial equity stakes in overseas markets by the funds have given rise to closer and intense scrutiny of these funds. Although developed markets benefit from the surge in liquidity by their investments and even as a number of troubled companies and investment banks received crucial lifeline from them, some financial experts in the developed countries have expressed doubts about the intention and the future direction of these funds.
The raging debate focuses on the following issues: Firstly, there is apprehension that overseas investment by these funds, mostly belonging to the Middle Eastern countries, may influence decisions in the investee companies which may be detrimental to interest and policies of the developed countries. Political motivation behind these investments appear to the prime concern of these experts. More specifically, the fear of what they call, hostile government in the countries owning these funds, have turned out to be very annoying for them.
Secondly, the sovereign wealth funds are said to lag behind substantially with regard to transparency, disclosures and corporate governance principles. This, it is argued, the might result in knowledge gap and even lead to corporate confusion and conflict especially when the sovereign funds would like to have their opinion established.
Thirdly, these funds may lock up their holdings for a long time thereby depriving the market of supply of securities when there are demands for such securities creating imbalance and scarcity premium.
Fourth, abrupt and sudden exit of investments by these funds may sometimes upset the market rhythm.
Fifth, these funds might at times target corporate control of the investee companies.
However, the above arguments do not stand validation on a closer examination.
These funds have recently embarked on investments in the equities overseas in quest for higher returns. It is expected that these funds will not adopt any such any policies and strategies as to invite stringent policies and guidelines from the developed country regulators which might jeopardise their investment strategies. In today's polarised world, hostile behaviour and attitude by these funds would only isolate them and these funds are likely to be aware of this hard reality.
The question of lack of transparency and disclosure shortcomings of these funds appear to be one-sided. Transparency and disclosure are subjective. Mere compliance of international accounting standards and practices do not guarantee transparency. The recent collapse of sub-prime mortgage market is a glaring testimony to this observation. It is also well-known that the much talked about hedge funds and private equity funds are not as much regulated as other funds, but these funds have been thriving with larger and bigger investments. Though there have been calls for stricter regulation of the hedge funds and private equity funds, but policy markers do not appear to be inclined to do so. Adoption of stringent guidelines and regulations for the sovereign funds alone could be perceived as discriminatory. On the other hand, the sovereign funds could be encouraged to adopt internationally accepted corporate governance and disclosure requirements as a result of their association with the investee companies.
The present total sovereign wealth fund of US$ 3.0 billion is only a fraction of global market capitalisation of more than US$ 100 billion. While the amount of these funds is projected to increase to US$ 15 billion by 2015, the total market capitalisation will also go up. Therefore, the sovereign wealth funds may not have the clout to call the shots.
The perceived spectre of corporate control of investee companies by these funds also is not tenable. These fund's holdings would most likely range between 10%-15%, although present holdings average about 5.0% (excepting a couple of cases). In order to muster corporate control the funds will be required to garner support of other institutional stock holders such as hedge funds, pension funds, private equities etc., which will be very difficult, if not impossible.
If the sovereign funds do lock up securities for a long period they alone should not be held responsible for decline in supply of stocks. What do the private equity funds do (PEFs)? The PEFs turn publicly traded companies into private ones by buying out all the outstanding stocks of a company. Although the PEFs might again convert the target company into publicly traded after some time, ones but there is supply dislocation, even if temporarily. It is most unlikely that SWFs will all 'exit' their investments all at a time. If at all the 'exit' is expected to strategically designed taking into view all market sentiment. The depth of the global financial market is now such that exit of investment by SWFs will not upset the market.
Notwithstanding the growing unease among the developed market experts, the SWFs are likely to consolidate their position in the years to come. The increasing wealth of the SWFs could be a blessing for the global assets management industry. These funds hold foreign currency assets on behalf of their governments in addition to the reserves held by their central banks. As the SWFs expand in size and embark on diversification, there will be demand for highly professional investment management skills enabling the assets management companies to access new and vast business opportunities and fetch bigger amounts of revenues. The involvement of international asset management companies with the SWFs and their long link with the investee companies land institutions will prompt the SWFs to adopt greater disclosure and transparency parameters. The SWFs will perhaps be aware of the fact that running of the funds on political motivation will be very unpopular and draw flake. It is most likely that SWFs will be run on commercial consideration.
The role of these funds in extending vital support to trouble-ridden financial market has compelled some sceptics to switch opinion in favour of SWFs. In times of crisis such as the sub-prime melt down, the need for liquidity is the most pressing need and the SWFs are definite source of liquidity. There is now increasing recognition of the usefulness of these funds. There is no denying the fact that the SWFs will be a force with reckon with in the world financial markets for quite sometime to come.
The writer is managing director of Investment Corporation of Bangladesh
Among the several shifts in the structure of global financial markets the most striking has been the emergence of the sovereign wealth funds, as they are called.
The sovereign wealth funds (SWFs) are investment funds generated and controlled by state authorities. The first SWF was perhaps the Kuwait Investment Authority set up in 1953. Some countries particularly Middle-Eastern countries have earned a huge amount of reserves as a consequence of the surge in oil prices. Flush with these surpluses, these countries have set up dedicated funds for off-shore investment. But some recent investment deals, particularly in 2006-2007, made by the sovereign funds raised eyebrows in the developed countries and captivated notice of financial policy makers giving rise to various types of speculation. Some countries which have so far established sovereign wealth funds are the following:
The investment style and strategy of these funds have already stirred not only a lot of interest, but also intense debate. According to the current estimates about US$ 3.0 trillion are at the disposal of the sovereign wealth funds of the emerging countries. China, the UAE, Kuwait, Saudi Arabia and Singapore being flush with surplus funds have been active with investment in the London Stock Exchange and in NASDAQ in the USA as well as in other companies, banks/financial institutions. Projections by investment bankers indicate that the sovereign funds will be able to amass fund in the range of US $ 15-20 billion by 2015. This almost matches the total market capitalisation of US $ 15.42 billion (2006) on NYSE and is about one fourth of total value of shares traded world-wide. The projected sovereign wealth fund is also most likely to dwarf the total fund available with the hedge funds. This resource power demonstrates that these funds may have the strength to wield considerable influence in the financial markets globally. As such, they will have a very wide choice of investment in varying degrees.
The recent developments marked conspicuous shift in the investment style of these funds. Traditionally their investments were mostly in natural resources including oil and metals.
With the globalisation of financial markets accompanied with huge surplus funds and growing dominance of financial market in global political economy, these govts. have now realigned their focus on financial markets. Their investment in the financial area now stretches from treasury securities to private equity entities. All these trends have created worriness among some developed countries. Even as they benefit from the investment in their countries by these funds and the concomitant liquidity injection they are debating the proliferation of the funds in their markets. While these funds persistently finance U.S. budget deficit, a group of financial experts are sounding alarms that the funds ultimately might dictate financial market movement in the future and diminish the dominance of the developed countries which had been the feature in the last several decades.
There has been mounting demands to enact rules, regulation and guidelines to govern these funds For example, Angela Market, Chancellor of Germany advocated for formulation of new rules to regulate their investment. The European Union has already drafted nonbinding guidelines for the SWFs.
In the recent times, these funds have not only acquired substantial stakes but also bailed out several financial institutions which incurred losses and had to write-off large amount of money as a result of sub-prime mortgage debacle.
The following are examples:
(a) Temasek, the wealth fund of the Govt. of Singapore had acquired some stake in Shin Corporation, one of Thailand's big telecom companies.
(b) Tamasek also bought new stock worth US$ 5.0 billion of Merril Lynch, one of the biggest investment banks. It also has a 18% stake in Standard Chartered, the British Bank.
(c) Singapore's other lesser known government fund, Govt. Investment Corporation invested US $ 9.7 billion for 9% stake in UBS.
(d) China's Investment fund invested US$ 3.0 billion in Blackstone, a New York based private equity firm.
(e) Abu Dhabi Investment Fund bought a 4.9% equity stake in the Citigroup for US $ 7.5 million. This investment strengthened the capital base of the group which fell to a very low level. This, along with other measures, allowed the group to rescue its several affiliated investment funds.
(f) Dubai International Capital whose investors include the Emirates ruler acquired shares in Sony (Japan), European Aeronautic Defence and Space (EADS), (Manufacturer of Air bus), HSBC, Tussauds and Travelodge Hotels. This fund buys stakes in the range of US$ 500 million to 1.5 billion in the 500 biggest publicly traded companies. The Dubai fund generally holds stocks for about five years and seeks annual returns of 15 per cent.
(g) It also invested US$ 5.0 billion in Morgan Stanley.
(h) Kuwait Investment Authority, a sovereign fund, has also acquired a stake in the Citigruop.
The SWFs have invested more than US$ 50 billion in troubled banks. The recent spate of acquisitions of substantial equity stakes in overseas markets by the funds have given rise to closer and intense scrutiny of these funds. Although developed markets benefit from the surge in liquidity by their investments and even as a number of troubled companies and investment banks received crucial lifeline from them, some financial experts in the developed countries have expressed doubts about the intention and the future direction of these funds.
The raging debate focuses on the following issues: Firstly, there is apprehension that overseas investment by these funds, mostly belonging to the Middle Eastern countries, may influence decisions in the investee companies which may be detrimental to interest and policies of the developed countries. Political motivation behind these investments appear to the prime concern of these experts. More specifically, the fear of what they call, hostile government in the countries owning these funds, have turned out to be very annoying for them.
Secondly, the sovereign wealth funds are said to lag behind substantially with regard to transparency, disclosures and corporate governance principles. This, it is argued, the might result in knowledge gap and even lead to corporate confusion and conflict especially when the sovereign funds would like to have their opinion established.
Thirdly, these funds may lock up their holdings for a long time thereby depriving the market of supply of securities when there are demands for such securities creating imbalance and scarcity premium.
Fourth, abrupt and sudden exit of investments by these funds may sometimes upset the market rhythm.
Fifth, these funds might at times target corporate control of the investee companies.
However, the above arguments do not stand validation on a closer examination.
These funds have recently embarked on investments in the equities overseas in quest for higher returns. It is expected that these funds will not adopt any such any policies and strategies as to invite stringent policies and guidelines from the developed country regulators which might jeopardise their investment strategies. In today's polarised world, hostile behaviour and attitude by these funds would only isolate them and these funds are likely to be aware of this hard reality.
The question of lack of transparency and disclosure shortcomings of these funds appear to be one-sided. Transparency and disclosure are subjective. Mere compliance of international accounting standards and practices do not guarantee transparency. The recent collapse of sub-prime mortgage market is a glaring testimony to this observation. It is also well-known that the much talked about hedge funds and private equity funds are not as much regulated as other funds, but these funds have been thriving with larger and bigger investments. Though there have been calls for stricter regulation of the hedge funds and private equity funds, but policy markers do not appear to be inclined to do so. Adoption of stringent guidelines and regulations for the sovereign funds alone could be perceived as discriminatory. On the other hand, the sovereign funds could be encouraged to adopt internationally accepted corporate governance and disclosure requirements as a result of their association with the investee companies.
The present total sovereign wealth fund of US$ 3.0 billion is only a fraction of global market capitalisation of more than US$ 100 billion. While the amount of these funds is projected to increase to US$ 15 billion by 2015, the total market capitalisation will also go up. Therefore, the sovereign wealth funds may not have the clout to call the shots.
The perceived spectre of corporate control of investee companies by these funds also is not tenable. These fund's holdings would most likely range between 10%-15%, although present holdings average about 5.0% (excepting a couple of cases). In order to muster corporate control the funds will be required to garner support of other institutional stock holders such as hedge funds, pension funds, private equities etc., which will be very difficult, if not impossible.
If the sovereign funds do lock up securities for a long period they alone should not be held responsible for decline in supply of stocks. What do the private equity funds do (PEFs)? The PEFs turn publicly traded companies into private ones by buying out all the outstanding stocks of a company. Although the PEFs might again convert the target company into publicly traded after some time, ones but there is supply dislocation, even if temporarily. It is most unlikely that SWFs will all 'exit' their investments all at a time. If at all the 'exit' is expected to strategically designed taking into view all market sentiment. The depth of the global financial market is now such that exit of investment by SWFs will not upset the market.
Notwithstanding the growing unease among the developed market experts, the SWFs are likely to consolidate their position in the years to come. The increasing wealth of the SWFs could be a blessing for the global assets management industry. These funds hold foreign currency assets on behalf of their governments in addition to the reserves held by their central banks. As the SWFs expand in size and embark on diversification, there will be demand for highly professional investment management skills enabling the assets management companies to access new and vast business opportunities and fetch bigger amounts of revenues. The involvement of international asset management companies with the SWFs and their long link with the investee companies land institutions will prompt the SWFs to adopt greater disclosure and transparency parameters. The SWFs will perhaps be aware of the fact that running of the funds on political motivation will be very unpopular and draw flake. It is most likely that SWFs will be run on commercial consideration.
The role of these funds in extending vital support to trouble-ridden financial market has compelled some sceptics to switch opinion in favour of SWFs. In times of crisis such as the sub-prime melt down, the need for liquidity is the most pressing need and the SWFs are definite source of liquidity. There is now increasing recognition of the usefulness of these funds. There is no denying the fact that the SWFs will be a force with reckon with in the world financial markets for quite sometime to come.
The writer is managing director of Investment Corporation of Bangladesh