http://archives.tcm.ie/businesspost/2007/12/30/story29239.asp

Huge, secretive government funds involved in buying-in and baling out are causing a stir in global financial circles, writes Simon Roughneen.

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Ho Ching, Exec Director of Temasek Holdings (AFP/Getty)

A financial fairytale of sorts was told around New York on Christmas Eve, with Merrill Lynch confirming a $4.4 billion injection from Singapore’s Temasek – run by Ho Ching, wife of the prime minister – as the embattled bank seeks to recover from losses inflicted in the ongoing sub-prime mortgage debacle.

The Asian white knight is the latest state-owned fund to grab a stake in institutions hit by sub-prime losses and pressured by an inter-bank credit squeeze.

The Merrill Lynch deal came after Morgan Stanley sold a $5 billion 9.9 per cent stake to China’s Investment Corporation – an arm of Beijing’s central bank.

With more quarterly loss reports imminent and write-downs due, expect more deals along these lines, replicating the $7.5 billion pumped into Citigroup by Abu Dhabi’s Sovereign Wealth Fund (SWF). Prior to getting its own infusion, Morgan Stanley estimated that SWFs have invested more than $37 billion in financial institutions since April 2007.US President George W Bush has take notice, telling media on December 20 that ‘‘I’m fine with capital coming in from overseas . . . to help bolster financial institutions’’.

Similarly, early December saw Britain’s ‘City minister’ Kitty Ussher brush off China Development Bank’s acquisition of a board seat on Barclays Bank, in turn funding Barclays bid for ABNAMRO, with an invitation for SWFs to invest in Britain – ‘‘to keep close to the world’s financial markets’’.

SWFs – effectively investment funds run by governments – have been around since the 1950s,but have ballooned in size and prominence in recent years, underwritten by record oil prices and a huge US trade deficit endowing petro-states and others with massive excess liquidity. In 1990, sovereign funds probably held around $500 billion in assets; the current total is an estimated $2-3 trillion – and growing. Morgan Stanley projects that these investment funds could grow to a staggering $17.5 trillion within ten years.

To compare, US GDP stands at around $12 trillion. Over the same period, when global financial assets are expected to double, SWF share of global wealth could almost quadruple from 2.5 per cent to 9 per cent.

These funds differ from conventional foreign exchange reserves in that SWFs are dedicated investment devices seeking high returns within a long-term political and economic framework. However, unlike hedge funds or private equity, SWFs have not, as a rule, sought board seats, and seem willing to brave short-term losses, as seen after China made quick and sharp losses on the $3 billion of its $1.2 trillion-and-growing forex reserves that it sank into Blackstone, a New York-based private-equity firm.

This brushstroke sketch aside, as International Monetary Fund (IMF) analyst Simon Johnson put it, in a recent in-house journal edition: ‘‘There’s a lot we don’t know about sovereign funds. Very few of them publish information about their assets, liabilities or investment strategies.” It’s thought that they’ve traditionally been long-term investors.

The implications of opaque government agencies giving of bailouts and getting stake-ins – in the murky global private equity mill – has irked and alarmed some, putting renewed focus on the SWF phenomenon. Switzerland’s UBS investment bank must face down a shareholder revolt over board plans to sell a $1.7 billion wedge to an unnamed Saudi investor, part of a total $9 billion stake sought by Singapore’s other state-run investment fund.

Nicolas Sarkozy and Angela Merkel have voiced their wariness of granting stakes and leverage in indigenous enterprise to other governments, and the European Commission wonders whether SWFs compromise the Single Market.

More than 20 countries have these funds with more interested in establishing one. The top five funds account for about 70 per cent of total assets – SWFs are headed by the so-called ‘Super Seven’ – all worth over $100 billion. The largest is thought to be the $800 billion Abu Dhabi Investment Authority.

The other six giants are: the Government Pension Fund of Norway; Government of Singapore Investment Corporation; Kuwait Investment Authority; China Investment Corporation; the Stabilisation Fund of the Russian Federation and Singapore’s Temasek Holdings.

But expect this listing to change. Russia intends to channel petro-roubles from its safety-first Stabilisation Fund into a more adventurous SWF. Saudi Arabia is thought to be setting up what will be the world’s biggest fund, with the Royal Family seeking higher returns on today’s seam-busting oil wealth, to bank for whenever the black gold dries up.

However, given the Saudi princes myriad opaque investment vehicles, and the dispersal of Saudi wealth to some terrorist-nurturing madrassahs (Islamic schools) from Indonesia to Algeria, it remains to be seen whether American politicians will allow Wall Street be harnessed to what, at best, may be politically opaque ends.

Norway aside, SWFs are run entirely by undemocratic states. Singapore is seeking high returns to ensure that its wealthy city state remains a quasi democracy, with ample resources to maintain a quiescent population, as neighbouring states such as the Philippines and Indonesia enhance their relatively new democratic credentials. Ditto Saudi Arabia, where the princes will use the new fund to remain at the helm of the repressive petro-state long after the oil – and revenues used to coerce domestic stability – are gone

For now, however, the last thing that a capital-constrained financial institution wants is to try raising money from the public markets in today’s overwrought environment. Deep-pocket SWFs can comfortably and controversially fill the void. Ethical investment issues will be overlooked while the current crisis continues, perhaps even giving opportunities to new fund-holders Sudan, Libya, Algeria and Venezuela to acquire stakes in western companies.

Responding to worries in target economies, SWFs are becoming more sophisticated in their bid-structuring. US concerns over SWF largesse being built on forex manipulation (China) or resource nationalism (Russia) or price manipulation (Saudi Arabia) have prompted some analysts to suggest that SWF investment be tied to broader trade and economic haggling. But SWFs are dangling carrots sufficient to beat off prospective sticks, for now.

The Barclays and Blackstone deals were sweetened by promises of preferential treatment and business opportunities in China’s already enormous and ever-expanding market.

However, a backlash may come if strategically important sectors such as telecommunications, energy and utilities become increasingly targeted by sovereign investors.

Even though US presidential candidates will not want to be seen shutting the gate on bailouts – given that more is to come for mortgage-holders and investors as the sub-prime saga lingers – there are political limits.

China’s national petroleum corporation (heavily involved in Sudan’s Darfur war-funding oil industry) pulled its bid for US oil giant UNOCAL in 2005 over what Beijing termed ‘‘unprecedented political opposition’’.

Congress sought to shout down a Dubai bid last year for a firm that manages various US ports. Despite their subversive potential, SWFs seem set to stay.

Next up will be debate over establishing some for of rules or norms for these agencies, requiring funds to disclose their investment strategy more openly.

© The Sunday Business Post, 2005, Thomas Crosbie Media TCH

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