As sovereign wealth funds extend their activities into global markets, to what extent should they be treated with suspicion and, as is the case in parts of Asia, actively discouraged? Richard Newell reports
The US perspective on the threat posed by ‘big foreign money' was highlighted at the annual Asian Pension Fund Roundtable, hosted by the Pacific Pension Institute (PPI) in Singapore. The PPI conference provides a unique insight into the often divergent philosophies and opinions of pension and social security professionals from different parts of the globe. Though with protectionism being practised in parts of developed Asia, in particular Japan, the US is clearly not alone in wanting to decide what foreign investors should be allowed to buy and where a line should be drawn.
Teh Kok Peng, president of GIC Special Investments, who chaired one of the main open discussion sessions, had noted the recent comments by economist Larry Summers, that "a crucial question for the global financial system and indeed for the global economy is how these funds will be invested. This question is profound and goes to the nature of global capitalism."
If we step back and assess what threat these new sovereign funds pose to the national security of the industrialised countries, we can see figures from various sources suggesting sovereign wealth fund assets total $2-3trn. That figure makes them larger than the hedge fund community ($1.5trn) and private equity ($1trn). But it is only a small fraction of the overall institutional investment pool of $53trn. A recent assessment by Morgan Stanley estimated that sovereign fund assets have the potential to grow to $12trn by 2015. A separate Standard Chartered Bank report notes that sovereign funds currently hold the equivalent of 1.3% of the world's stock of financial assets.
What they share with their hedge fund cousins is an air of opportunism and mystique. Leading corporate governance activist Linda Tsao Yang, chair of the Asian Corporate Governance Association, suggested that all such investors are judged to be guilty until proven innocent.
Robert Hormats, vice chairman of Goldman Sachs International, said the "growing investment xenophobia" is dangerous for the US. "If the environment becomes too hostile, that would cut off the flow of capital to the US." But he supports Hank Paulson's view that the IMF should develop best practices for governing the investments of sovereign wealth funds (SWFs) that "demonstrate to critics that SWFs can be constructive, responsible participants in the international financial system".
Hormats added that "lumping all sovereign wealth funds together - state boards, central banks, petrodollar assets - is wrong. It risks becoming political and I think, in particular, the management and development of pension funds needs to be kept out of the political arena. The problems tend to occur where large amounts of money are accumulated at certain points. It looks too easy and policy-makers look to harness that in some way. But when politicians interfere in the allocation of capital, it doesn't tend to achieve optimum results."
Despite the concern, Hormats said he saw no evidence of this occurring currently. "But there is a concern that it may happen." To avoid the situation where restrictions are imposed by certain nations, causing frictions in the global financial system, Hormats advocated an immediate dialogue that both sides will perceive as being relevant and fair. "A constructive dialogue that leads to understandings will mean that these large funds can be enormously beneficial to the global system. On the other hand, both sides will lose if clarity is lacking and the political process dominates and ultimately trumps the economic and financial process."
Linda Tsao Yang dismissed this idea: "I am not optimistic of anything rational coming out of that mechanism. The G7 is still dominated by industrialised countries. My suggestion is we should build a coalition of sovereign wealth investors, of whatever stripe, and devise a common policy. Then we can have a genuine dialogue on this issue."
Hormats said the dilemma is that "the industrialised world is not used to being a recipient of foreign capital. The majority of Americans are unaware of the extent to which we have foreign companies, the likes of Nestlé and BP - and even less awareness of our reliance on foreign capital."
Teh noted that in terms of reciprocal ownership rights, it is important to recognise the specific structural issues faced by many countries in Asia. The obvious example is China, which is managing the transition from command economy to an open economy. "You can expect many Chinese companies to remain under the control of the Government for another 20 years. You have to allow that these things take time," said Teh. "The important thing is you don't want an overreaction. We have a fairly open investment regime worldwide with regard to FDI, even in China."
Chief among the concerns is the need for transparency in how funds assess liabilities and construct investment strategies to address those liabilities. Teh said: "It's more important to look at the processes these funds go through and how they invest than to ask whether they are being run according to political objectives. More important is the issue of transparency about internal processes."
At the other end of the spectrum, state owned does not always equate to state controlled. Teh pointed to GIC's status, on one level an autonomous investment institutional, but owned by the Singapore government. Teh asserted that since 1981 when the GIC was established, the government has at times suggested investments, for example into Africa ‘as a show of support'. "In that instance we didn't think it was a good idea," says Teh. "In fact, in no case have we ever been over-ruled. We have to accord it the proper respect but we have given our reasons in all cases."
Priya Mathur, trustee for CalPERS, says she is not as concerned about SWFs "as I am about state interference in the allocation of capital, to the detriment of foreign stakeholders". Ajit Dayal of Quantum Advisers in India agreed with Teh: "Put the risk controls in place and you remove the political aspect." Barry Metzger at law firm Baker & McKenzie suggested that governments should be encouraged "to protect their interests at the investment level, not the investor level".
Marsha Vande Berg, chief executive officer of the Pacific Pension Institute said: "SWFs have emerged as major state-owned players in today's globalising financial markets. They are one more indication of the linkages that are growing between and among the economies of the world. Clearly, the SWFs are becoming major players in today's financial markets. Sorting through the dilemmas their evolution poses will challenge both policy makers and investment practitioners around the world."