Private capital to transform sovereign wealth funds
A curious trend is developing among powerful sovereign and state-backed investment funds: despite being super rich in mainly oil-generated wealth, they are tapping the private sector for more capital.
Qatar, Bahrain, Singapore, Abu Dhabi and Kazakhstan are among those that have been raising capital via bond sales, fund placements or bank loans.
The participation of private investors whose investment horizon is shorter may drive sovereign wealth funds to move away from typically orthodox and long-term investment strategies.
That means that a vast pool of conservative and slow-moving funds that often act as a stabilizing force for the world financial market could begin to add to global volatility by adopting strategies driven by shorter-term profits.
Sovereign wealth funds (SWFs) -- which manage assets of more than $3 trillion, according to industry estimates -- have typically been viewed as managers of windfall national revenues and, uniquely, without direct liabilities. That has enabled them to invest over long-term horizons that can stretch decades.
But having suffered double-digit losses during the global financial crisis, they are under growing pressure to deliver competitive short-term returns that will satisfy sponsoring governments.
"As these funds navigate domestic political waters, the time horizon is shrinking. Politicians who ultimately grant these institutions' legitimacy want to see returns. If they're sitting there and not making money, there's a problem," said Ashby Monk, a research fellow at Oxford University who has advised SWFs.
"So they're going out to get private capital to achieve their objectives."
Sovereign funds are estimated to have lost $80 billion at one point after investing in troubled Western banks such as UBS (UBSN.VX) or Citi (C.N) during the crisis. Their assets had also shrunk after some governments, such as Kuwait and Qatar, dipped into sovereign funds to shore up domestic economies.
Raising capital brings leverage, allowing SWFs to pursue the more sophisticated strategies used by hedge funds or private equity to achieve similar returns within a defined timeframe.
Winning private sector investment also serves to reinforce the legitimacy of sovereign funds, not only domestically but internationally after some foreign governments grew suspicious SWFs invest with political, rather than commercial, motives.
"If a SWF can attract private investors, then it is demonstrating to the world that it is purely commercial and financially oriented," Monk said. "In turn, investment-receiving countries will perceive them as non-threatening."
Sovereign funds are becoming active again after sharply reducing their headline activities in developed markets after the financial crisis and as improving global market conditions offer attractive borrowing rates.
Samruk-Kazyna, Kazakhstan's $70 billion wealth fund, plans to raise up to $6 billion this year in bank loans from China and Russia. It is also planning to get a credit rating in the next few years before raising funds in an eventual initial public offering.
"It is to continue to improve the corporate governance of these companies (under SK), to bring more money, and to be a significant player in the global economy as a sovereign wealth fund," its chief executive Kairat Kelimbetov told Reuters.
Samruk-Kazyna is at the forefront of attracting foreign direct investment needed to diversify Kazakhstan's oil-dependent economy and develop new industries such as mining or metals.
Tapping an international investor base will help raise its profile in the global market and top up its coffers after the fund bailed out Kazakhstan's crisis-hit financial sector.
However, as sovereign funds take on new liabilities and new shareholders, they may be forced to invest in riskier, high-yielding assets to please private investors whose investment horizon is typically shorter.
That could encourage them not to lock in investments for the long term so that they have funds at hand to pay a dividend or coupons.
For recipient countries and other investors, the blurring of the lines between public and private investors may make it harder to assess risks.
"We see an overlap between traditional fund managers and new financial vehicles owned by the state which provides the sovereign with the ability to raise funds," said Efraim Chalamish, a global fellow at the New York University Law School, who advises various sovereign funds.
"If they become more involved in private financing, it would be more difficult to understand the nature of activities and also their legal exposure. When it involves public entities and political risks, the mechanism for assessing and quantifying risks is limited."
All of this challenges the conventional wisdom about sovereign funds and could jeopardize their original mandate of maximizing wealth for future generations.
"By introducing new liabilities, they're changing the nature of what the sovereign wealth fund is. The 'sovereigness' of the sovereign wealth fund may need to be reconsidered," said Victoria Barbary, senior analyst at advisory group Monitor.