By Ashby Monk | Disclaimer
This blog is a source of open discussion and engagement on the topic of SWFs. As such, we welcome and indeed seek out all views and opinions on the subject. Today, we offer the fourth installment of what is becoming a routine segment: “Q&A with a SWF expert, stakeholder or policymaker”. We are pleased to welcome Michael McCormack of Z-BEN Advisors. While Mr. McCormack’s views are his own, his perspective helps to further debate and facilitate understanding.
Ashby Monk: Thanks for joining us today, Michael. To begin, could you give us some background on Z-Ben and explain your interest in SWFs?
Michael McCormack: We’re a Shanghai-based consultancy which identifies market opportunities in the Chinese market primarily for Western asset managers and financial services providers. We help identify investment and acquisition opportunities but, increasingly, we also find potential customers for our clients. As China’s interest in overseas investment has grown, that has led us to assess SWFs as buyers.
Ashby Monk: Since your firm is a Chinese company doing research on the ground in China, what is your take on the reception the CIC has had in the US and the EU?
Michael McCormack: I think the initial response – the one that preceded study, dialogue or serious appraisal – was predictable: certain sections of the US legislative branch (and their think-tank armourers) sounding alarms, a consensus for caution expressed in the EU, Britain rolling out the welcome mat… Since early summer 2008, I’m pleased to see (as I’m sure CIC is) a more reasoned set of responses emerging. It’s not clear to me that there are many sectors of the US or EU economies that wouldn’t benefit from having access to long-term, passive capital and I think their needs are now pressing more heavily on the considerations of legislators. In my view, CIC’s two decisions – to communicate much more fully and directly their intentions and to slow down the pace of their investment – have contributed enormously to the improving quality of the discussion.
Ashby Monk: In your view, will the CIC engage in ‘economy supporting’ or ‘SOE supporting’? In other words, will it invest purely to maximize returns?
Michael McCormack: I believe CIC has taken the advice to Caesar’s wife. They know that no actions could more fully poison the environments in which they hope to invest than acting as a stalking horse, silent backer or declared supporter. They will not only invest purely for profit, in my view, they will forswear investments which might be construed as SOE-supporting. This is not, in my opinion, merely the preference of CIC’s upper management, although they are expressing their intent to avoid SOE-supporting investments loudly and clearly. It is also the intent of the creators of CIC: China’s State Council. When discussing CIC, it is important to remember that it was created – and handed ownership of a large portion of SAFE’s reserves along with a large number of China’s restructuring financial companies – to ensure just such single-minded ownership.
Ashby Monk: You suggested in a recent report that the CIC will have over $600 billion in assets under management by the end of 2010. How did you come to that number?
Michael McCormack: Sterilised currency reserves in SAFE’s hands now exceed USD1.8tr and that number continues to grow every day. Originally conceived as a defence mechanism against external speculative attacks in the aftermath of the Asian currency crises, that account’s management is now creating serious problems. Bluntly, it’s now considerably overfunded to meet its stated purpose and, worse, almost wholly tied up in low-yielding debt from currencies against which the yuan is likely to appreciate. CIC was created as a means of putting excess funds to better use – more fully mitigating, if not negating, currency losses through investments that can yield higher returns. So far, CIC has received only seed funding to establish its first relationships with overseas asset managers and build processes that permit a much greater volume of funds to be invested. As the reserves grow, so does the pressure to transfer them to CIC’s management. Given the scale of the problem, USD600bn by 2010 may not be enough.
Ashby Monk: In terms of organizational structure and investment strategy, how do the CIC and SAFE differ?
Michael McCormack: Perhaps the easiest way to distinguish them is by considering CIC as an organization designed to pass foreign governments’ sniff tests for potential sovereign investors in their equity markets. CIC is essentially a repository for government funds that invests autonomously and solely for profit. It is capable of articulating a portfolio strategy to meet its goal of maximising long-term returns and forming public relationships with the broad range of firms that will help it populate that portfolio through direct and mandated investments. It can also disclaim any interest in doing or government-mandated duty to do anything else. SAFE, by contrast, is an arm of the People’s Bank of China, whose mission is to manage a liquid, low-risk and instantly-callable sterilised reserve of foreign currencies while facilitating the foreign exchange transactions of every government-owned or controlled department or company.
Ashby Monk: Should SAFE be considered a SWF?
Michael McCormack: No. Like many central banks, the PBoC is extending the range of assets it owns and is using SAFE as the buyer. I have no doubt it will continue to do so, if only to improve the management of its portfolio’s risk profile. However, SAFE can have neither the pure profit-seeking portfolio design nor the clean separation from other organs of the state that CIC was created to enjoy. To my mind, that makes it likely to behave, at times, in ways that might compromise a genuine SWF’s purpose.
Ashby Monk: Thanks, Michael, for taking time out of your busy schedule to chat with us today.
