If you’ve ever thought about getting away to Baku, Azerbaijan, you might want to think about doing it next week. The inaugural meeting of the International Forum of Sovereign Wealth Funds is taking place there on October 8 and 9. The meeting, which is being hosted by SOFAZ, should be worthwhile, as reports indicate that there will be a large representation of SWFs there.
It’ll be very interesting to read the final communique; as this is the first meeting since April (in Kuwait), and much has happened since then. In particular, I’m keen to see how SWFs assess the effect the Santiago Principles have had on their global acceptance. I’ll also be interested to see if any consideration will be given to formalizing some GAPP reporting (as NZ has considered).
Anyway, there is lots to talk about. Watch this space on Monday the 12th.
Yesterday, I wrote that SWFs are perhaps better thought of as SwFs, since their wealth wasn’t matching up to previous estimates. Indeed, many of the analysts are today coming out with figures in the $1.5-2 trillion range, which is quite different from what we thought in early 2008. However, today I see a report out that says SWFs’ assets jumped in 2008 by 19% and are now around $3.9 trillion. What gives?
I’d rather not point fingers at any analyst, since the task of calculating SWF assets under management is a difficult one (secrecy and definitional inconsistencies present real challenges). Instead, this give me a chance to talk about an interesting paper I just read by Thomas J. Grennes entitled, “The Volatility of Sovereign Wealth Funds.”
In it, he makes a fervent case that a SWF’s size is inherently volatile. This is for two main reasons: First, the sources of revenue are extremely volatile. Second, “the portfolios of SWFs have also been affected by the current world recession that has diverted SWF investments from the international market to domestic spending in Russia, Norway, the Gulf States, and elsewhere.” In short, it is hard to predict how much money will be going into SWFs. It’s equally difficult to predict how the money will be invested, which in turn makes return assumptions hard to pin down.
So, assessing the current size of SWFs, and especially forecasting their size, is especially difficult; perhaps the hardest among all institutional investors. This is made clear by the recent divergence of estimates highlighted above.
Nadim Kawach has an article out this morning that highlights the extent to which the size of SWFs has been exagerated over the past few years. This is, in part, due to the fact that many SWFs are still not transparent, which leaves analysts with the unpleasant task of (informed) guessing as to how much these funds actually manage. According to the article, which quotes an adviser at the Saudi Ministry of Petroleum and Mineral Resources, the assumptions that go into this guessing-game are oftentimes faulty:
“These projections are highly exaggerated as they were based on exaggerated estimates of present assets and on unrealistic assumptions about oil prices, the capacity of economies which own those funds, the return on those investments [5.5 per cent annually] and other illogical projections.”
So how big are these funds? The article seems to suggest that rather than the $12 trillion projections for the next few years (2015), a better assumption is something in the range of $2 trillion (for 2012). That’s a big difference that can’t be explained by the three year gap! Alas, the latter is probably the more accurate assessment, as it is in line with the Setser-Ziemba calculation from August, which pegged SWFs at around $1.5 trillion.
So, the W in SWF isn’t quite as big as we thought. Even still, I’m confident that SwFs will still be important players in financial markets. At least I hope so…my research depends on it!
Katharina Pistor has written a paper entitled, “Banking reform in the Chinese Mirror.”
I thought it was pretty interesting. While the focus of the paper is on the governance of financial relations in China, it does provide quite a bit of detail on some SWF transactions, including the now (in)famous 2007 CIC-Blackstone and CIC-Morgan Stanley transactions. She also offers up some intersting insights:
“In 2005-06, Western banks queued for acquiring minority stakes in China’s state-controlled banks. Only two years later, Western banks found themselves queuing in China, Singapore, Kuwait and Qatar to sell stakes in their banks to sovereign wealth funds (SWFs) from these countries…”
You can find it here. From the perspective of SWFs, the paper really gets going around page 20.
Enjoy your weekend.
The Santiago Principes, also known as the Generally Accepted Principles and Practices or GAPP, represent an important step forward in the ongoing debate over the international legitimacy of SWFs. Indeed, both the process of creating the Principles as well as the Principles themselves proved important in attenuating suspicions and fostering dialogue among sponsor countries and target countries.
But it’s not all rosy. Many have complained that the Santiago Principles didn’t go far enough. After all, they are a voluntary set of guidelines with no reporting or compliance requirements. Many of the people I’ve spoken to feel this is a big weakness; the sincere hope is that the new International Forum will add some teeth to GAPP.
And yet, not all SWFs are waiting around to see what comes out of the Forum. For example, the New Zealand Superannuation Fund has just published a detailed list of responses to the Santiago Principles. The seven page document isn’t very detailed, but it is fascinating. At a glance, you can see how the NZSF stacks up to the various Principles.
NZSF is already one of the best governed SWFs out there, so its willingness to respond to GAPP is not all that surprising. Nonetheless, I still think this is a big step forward; this report may eventually serve as the model for a generic compliance procedure for GAPP. Some additional details would be welcomed, but this is a productive start.
My only remaining question: Who’s next? Ireland? Australia? Or how about China? Anybody? Anybody at all? Bueller?
I’ve talked at length about the idea of SWF cooperation (here, here, and here). Significantly, the idea of formalizing such cooperation among SWFs has now been given an endorsement by China.
In a recent paper for the G20, Hu Xiaolian, China’s central bank deputy governor, proposed setting up a “supra-sovereign wealth investment fund” to facilitate additional investment in developing nations, reduce the danger of another financial crisis, and offer more alternatives to dollar denominated investments. The paper in which Hu made the suggestion is short on details — no mention is made as to how such a fund would be structured — but the idea is given some prominence in her concluding remarks.
As I’ve said before, this isn’t a bad idea; it may even be a good idea. But I have trouble seeing how such a fund will be governed and managed. Who will take the lead on investment decisions? To whom will the managers be accountable? To whom will the board be accountable?
Nonetheless, it is interesting to see the idea getting some traction among policymakers. It will be even more interesting to see where the idea goes from here.
For those of you who thought the national security concerns surrounding SWFs had dissipated with the global financial crisis, NPR has an article out that shows otherwise. Apparently, President Obama remains very interested in SWFs’ activities, and he’d like to know if SWFs want to “just, ‘maximize returns’ or ‘stick it to the Americans’.” The management of foreign reserves and the activities of SWFs both (according to the article) feature as part of the President’s daily national security briefings.
Given the sheer scale of the assets, the President’s interest seems reasonable. After all, he should be kept abreast of any potentially destabilizing forces; a sudden diversification in reserves away from dollars would be just that. In addition, a NYT article today illustrates the potential use of such reserves for political ends, which is likely another national security concern.
So, does this mean we will see 2007’s protectionist tendencies re-emerge in 2010? Probably not. SWFs have done quite a bit to become more transparent over the past year. Moreover, it’s one thing to keep an eye on things and another to implement new policy.
SWFs from Australia, China, Libya, Norway, Qatar, and elsewhere are all currently looking to London and the UK for real estate investments. I love London, but it was the most expensive city in the world in 2008! Shouldn’t these funds be looking to invest in cities that are undervalued?
What a difference a year makes; the picture in 2009 is quite different. The discounting of the Pound during the global financial crisis appears to have indeed created a buying moment. According to a UBS report, London fell from 1st in 2008 to 21st in 2009 in a global ranking of the “most expensive cities.”
So, when it comes to property investments, SWFs are betting that, over the long-term, London will not remain cheaper than Caracas, Dubai, Dublin, Lyon, etc. That seems a reasonable basis for investing in SW1.
In our latest paper, Gordon and I examine the ethical investment policies of Norway’s SWF and their role in securing domestic legitimacy. We conclude that Estlund’s notion of epistemic proceduralism is particularly appropriate in Norway, as it is a means of legitimating institutions by virtue of the processes used to represent the public interest rather than the functionality of those institutions against certain expected outcomes. As we argue in the paper:
“There is a paradox deeply embedded in the governance of the GPF-G. On one side of the equation, it is clear that the procedures developed to give effect to the public interest in ethics and global justice have been very important in representing shared commitments to Norway’s international obligations. The recommendations of the Council on Ethics on GPF-G investment are taken very seriously by the Ministry and serve as a vital element in screening and excluding companies from the GPF-G investment portfolio. But it should be obvious that naming and shaming hardly ever moves markets, and the instant Norway disinvests another investor takes its place. There is little evidence that naming and shaming increases the long-term cost-of-capital for the affected companies. Nonetheless, naming and shaming is an essential ingredient in their process-model of institutional legitimacy: the Council and its recommendations are meant to represent public values. Whether or not these recommendations exact a penalty on the targeted companies is less important.”
When I was an undergraduate, I took a memorable finance class from Burton Malkiel. In reading through the newly released Temasek Review 2009, I am reminded of a common theme from his course: ‘Don’t try to time the market.” In his view, you simply can’t; the market is a random walk. After seeing Temasek’s performance over the past 15 months, I can’t help but agree.
Temasek’s portfolio dropped from S$185 billion in March 2008 to S$130 billion in March 2009. However, only three months later, the portfolio was back up to S$172 billion. By staying the course, Temasek avoided the types of timing penalties that invariably punish herd-mentality investors. Indeed, the total shareholder return compounded annually since inception is now back up to around 16% even after the global financial crisis! This is a remarkable return, which can only be sustained by taking a very long-term view on investments.
Anyway, Temasek did divest a few investments that it ought not to have (i.e. Barclays), but for the most part the return to July reflects their ongoing commitment to a certain portfolio and risk budget.