The Design and Governance of Sovereign Wealth Funds
The Economist Intelligence Unit has a good article on the CIC today. Wondering what the CIC’s been up to over the past year? What they’ll be doing in a year’s time? Read here.
“So what has the CIC been up to? During its apparent hibernation, when many overseas markets were too turbulent to invest in, the CIC concentrated on internal restructuring and on domestic investments.”
A new Saudi Arabian ‘state investment vehicle’ (i.e. sovereign wealth fund) will launch next week with an initial capitalization of $5.3 billion. The SWF, named Sanabil al-Saudia, will begin making investments in six months time. It will be a portfolio manager for the Public Investment Fund and will have a global mandate to invest in a broad range of asset classes.
The launch of this SWF comes on the heels of the unveiling of the Hassana Investment Company, another Saudi Arabian public invest vehicle, which will invest pension fund assets in global markets. Clearly, Saudi Arabia is looking to tap into the additional returns available in financial markets; if markets really have bottomed out, their timing couldn’t be better.
With respect to Sanabil al-Saudi, according to Secretary General of the PIF Mansour al-Maiman , external advisers will be making the investment decisions (if we are to believe press reports). This a smart way to proceed in the short-term:
First, the difficulty of setting up an effective investment vehicle should not be underestimated. The governance and competencies required necessitate outsourcing the investment function, at least in the short term.
Second, in this tumultuous market, it is better to have a scapegoat for any initial bad investments (see China Investment Corporation). By outsourcing investments, the SWF could simply replace the investors in case of poor performance, and the new SWF will retain domestic legitimacy. Conversely, if the fund started investing its own money from the outset, bad investments could result in a loss of mandate altogether.
Finally, investing internationally may spark some concern on the part of target countries; independent consultants making the investment decisions may alleviate any political concerns of recipient countries.
Singapore seems to have the market cornered in SWF design; countries around the world are using either of Singapore’s two SWFs as models for their own SWFs.
For example, China has drawn inspiration from both Singapore’s funds: the CIC was based in large part on the Government of Singapore Investment Corporation, and CIC 2.0 is reported to be based on Temasek. Most recently, Bahrain’s SWF–Mumtalakat–is now modelling itself on Temasek.
What is it about Singapore’s SWFs that makes them so appealing to countries considering a new SWF? I’d argue the appeal is largely based on legitimacy. This intangible asset can be rather elusive for many new SWFs. Nevertheless, Singapore’s funds appear to have it, so it is natural that other SWFs–which will require international legitimacy in order to implement their investment strategies around the world–will seek to replicate the Singaporean models.
Another reason? These two funds have facilitated the accumulation of hundreds upon hundreds of billions of dollars within a tiny, island nation. That probably has some appeal too…
I mentioned in a previous post that Russia’s poor economic conditions may result in the country’s SWFs being completely tapped out by 2012/13. It looks like I may have been wrong; the Reserve Fund will likely not survive that long.
According to Russian Finance Minister Alexei Kudrin on Wednesday, the Reserve Fund will be “practically exhausted” in 2010, and the government will have to cut spending in order to minimize their budget deficit, which is estimated at 7.4 percent this year.
Russia has two SWFs–the Reserve Fund and the National Welfare Fund–so it has plenty of assets on hand to finance the budget deficits. At last count, the combined assets under management was over $200 billion dollars. However, given that the Reserve Fund is the larger of the two SWFs, the idea that it could be fully exhausted by next year is remarkable.
It looks like Russia will be heading back into international debt markets…
Proposals to create a new Chinese SWF appear to be making progress:
“A draft proposal to establish the new firm, which is expected to have at least 50 billion yuan ($7.3 billion) of initial registered capital and to be directly led by SASAC, was recently submitted to the State Council, China’s cabinet, for approval, said the sources.”
As I mentioned in a previous post, the new SWF–which is being called CIC 2.0–will be an amalgamation of several under-performing SOEs and managed by the State Owned Assets Supervision and Administration Commission. The difference between this entity and the CIC would be its domestic focus, making it more akin to the Central Huijin Investment Company (a CIC subsidiary).
It also strikes me that CIC 2.0 will share similarities with Singapore’s Temasek, which also began with a domestic focus and a mandate to safeguard Singapore’s strategic assets through professional management. Given that CIC 1.0 was in large part based on Singapore’s GIC, it is not all that surprising that China might draw further inspiration from the island nation.
The Oxford SWF Project is diversifying into other media. In addition to the (almost) daily blog posts, we are now updating our Twitter account (@sovereignfund) on a daily basis as well. All the SWF news that’s fit to tweet! Check it out.
Lou Jiwei recently shared credit for the CIC’s 2008 out-performance with…the Europeans. Lou suggested that it was their penchant for protectionism that led him to avoid the jurisdiction altogether last year, which proved extremely wise given the widespread losses during the year:
“…I am grateful to their protectionism. Thanks to this, I didn’t invest a penny in Europe last year.”
There is likely some truth to that. However, as I argued in a previous post, it was also the poor investments made by the CIC in 2007 that saved it from incurring further losses in 2008:
“Another (albeit more cynical) interpretation would be that the CIC got burned on its first two major overseas investments and was forced to take a time-out before making any more investments. It was during this time-out that global financial markets collapsed. Indeed, even if the Blackstone and Morgan Stanley deals never make money, they may still be viewed as home runs for the simple reason that they likely prevented the CIC from losing much, much more money in a disastrous market.”
Whatever the reason for the CIC’s performance in 2008, it looks like they will be expanding their EU investments in 2009. Given how much has changed since 2007, it will be interesting to see how these investments are received.
In keeping with this week’s emerging theme on the independence of SWFs, Ben Hall of the FT has a nice article on the Caisse des Dépôts et Consignations (CDC). The CDC, which Hall refers to as “arguably the world’s oldest sovereign wealth fund,” has apparently been asked to bail out several struggling French firms over the past few years. The result? the CDC experienced its first loss in nearly 200 years of operations. Clearly, investing in struggling companies is not a money maker:
“Of the writedowns, €2bn related to CDC’s investments in Dexia, the Franco-Belgian bank it helped to rescue from collapse last year with an injection of capital, and in Eiffage, the construction and concessions group in which it built up a 20 per cent stake to help thwart an attempted takeover by Sacyr of Spain.”
Indeed, the CDC has been an important French tool during the financial crisis:
“Although theoretically independent from the government, the finance house is often encouraged by the state to protect French companies from foreign takeover by acting as a long-term core shareholder.”
The CDC also owns and partially manages the new French SWF, the Strategic Investment Fund, designed to protect French companies from foreign predators.
In France, where state enhanced capitalism is at its best, SWFs have their role to play.
Throughout the world, cash strapped governments have been looking to their SWFs to provide money for government stimulus packages. In the case of Argentina, the pension system was nationalized. In other countries, such as Ireland, the pension reserve fund was pushed to recapitalize banks (to the tune of some $18 billion). The list goes on.
The glowing exception comes in the form of the Canada Pension Plan Investment Board. While I wouldn’t technically call this a SWF (for reasons explained here), it is a government sponsored institution. As such, one might think that it would be vulnerable to political interference. It isn’t.
“…Canada’s governments, both federal and provincial, can’t force the CPPIB to use any of its assets – $109-billion as of Dec. 31 – to fund stimulus projects because of the arm’s-length manner in which the pension plan was set up a decade ago.”
Indeed, the CPPIB operates as a quasi-independent entity. The result: government has absolutely no influence over the investment process. In fact, if any CPPIB employees or board members are approached by government officials for any reason, they are ethically required to report it. The point? To ensure that the assets in the fund maximize the welfare of pension beneficiaries; not recapitalize banks…
