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Cracking the SWF Code
By Jumana Al Tamimi, Associate Editor
09/30/2008

While the financial systems of leading Western powers reel under the current credit crisis, sovereign wealth funds (SWFs) of resource-rich countries with an estimated assets of $3 trillion may remain unabated in shifting the globe's financial weight from the West to the East.

Bahrain-based Investcorp, the asset management firm specializing in alternative investments, announced last week the launch of a $1 billion credit investment vehicle that has been formed to acquire whole loans, mezzanine loans, and commercial mortgage-backed securities (CMBS) collateralized by well-performing commercial and residential real estate assets throughout the US. The company said a sovereign wealth fund from the Gulf region has committed $850 million to the vehicle.

The current financial crisis does not seem to deter SWF ambitions in acquiring foreign assets, according to analysts. "This is neither an American crisis, nor a European or a Gulf one," says Kuwaiti economist Ali Al Nemash. "It is a global crisis..... The crisis has started and not ended," he adds. And crises are the best times for investments, he continues, including the long-term investments of SWFs. "Cash is king, and cash rules," he says.

Benefiting from soaring oil prices and booming foreign exchange reserves, SWFs from the Gulf and far East Asian countries have been investing in different parts of the US and Europe, including major financial hubs such as New York, London and Geneva. Such investments, regional economists say, are necessary in the situation prevailing in the West.

SWFs of Abu Dhabi, Kuwait, Qatar and Oman have invested in buying stakes in giant Western financial and commodities companies and bonds. For example, The Abu Dhabi Investment Authority (Adia) purchased a 4.9 per cent stake in Citigroup valued at $7.5 billion last year. Adia is the world's largest SWF, which controls nearly $875 billion in assets, according to reports

Concerns

SWF investments - which are defined as government investments funds separately managed from official currency reserves - have created concerns in Western countries due to the perception that they might be politically motivated. According to Al Nemash, Western governments look at the SWFs investments as "temporary" solutions, and are prepared to pacify fear and tension related to them. They believe they can restrict them if the need arises, recalling the experience of the Kuwaiti Investment Fund in Britain in the early 1980s.

Britain's former Prime Minister Margaret Thatcher had then sought a legislation to block foreign investments exceeding 25 per cent in British Petroleum (BP). As a result, Kuwait, which was the first country to establish a SWF in 1961, had to reduce its share of investments in the company to less than 15 per cent. And as recently as last August, the German cabinet adopted a bill which blocks non-European investors from winning a share in a German company that would exceed 25 per cent. The move came amid reports on talks between SWFs from the Gulf, Russia and other regions with Siemens, the German industrial conglomerate and the largest European engineering group.

Meanwhile, representatives of 26 SWFs met in Santiago, Chile earlier this month, and agreed on a set of 24 voluntary principles for the funds to follow and ensuring their competitiveness in global financial markets. The details were not disclosed, and will only be made public at the annual meeting of the International Monetary Fund (IMF), scheduled on October 11 in Washington, DC. According to The Times [London] newspaper, the principles would "include encouraging the funds to explain their investment criteria, and recommending that they avoid buying stakes in sensitive companies, such as Western defense contractors".

Known as the Generally Agreed Principles and Practices (GAPP), the norms cover all related aspects, including legal framework, investment policies and risk management policies, participants said. "One very important thing they [non-SWFs representatives] have understood through this process is that SWFs understand the need to make their motivation clear...The recipient countries, and other organizations also understand that too much transparency will render SWF uncompetitive," the source adds.

Economists in the region, including a member of the Saudi Shura (consultative) Council and economics professor Waleed Arab Hashem, describe Western concerns regarding the SWFs investments as "unjustified". Western countries, he continued, "are based on the principles of free economy and fears from investments contradict such principles. If this continues, this will hurt them [Western countries] more than they will benefit from".

Standards

While Saudi Arabia, the world's largest crude exporter, invests billions of dollars abroad, it has no official body as a SWF. Yet, the size of Saudi investments overseas is estimated at nearly $300 billion.

Both Hashem and Al Nemash call for more and higher professional standards in running SWFs, particularly in the Gulf region, and in dealing with the recipient countries.

Gulf countries are part of the International Working Group of Sovereign Wealth Funds (IWG) as individual countries and not as a bloc. Oman and Saudi Arabia are permanent observers, while UAE, Qatar, Kuwait and Bahrain are members of the IWG.

The 26-member IWG includes Australia, Azerbaijan, Bahrain, Botswana, Canada, Chile, China, Equatorial Guinea, Iran, Ireland, Korea, Kuwait, Libya, Mexico, New Zealand, Norway, Qatar, Russia, Singapore, Timor-Leste, Trinidad & Tobago, UAE and the US [primarily Alaska].

SWFs are a "very diverse group of entities", explains one source. They represent emerging countries, developed countries as well as developing ones. Their histories range between tens of years and one year. They vary in size, structure and purpose. They also have different agreement with host countries.

The estimated $3 trillion assets of the SWFs are expected to double in the next few years. Different estimates suggest that their assets may rise further to about $ 6-10 trillion within five years, the IMF noted.

Global Insight, the leading company for economic and financial analysis worldwide, announced earlier this year that SWFs have been growing by 24 per cent annually for the past three years. "Projecting out this annual growth rate, sovereign wealth funds will surpass the entire current economic output of the United States by 2015, and European Union by 2016," forecasted Global Insight.

Gulf News, September 24, 2008. Editorial changes were made in keeping with the policy of www.memrieconomicblog.org

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