News Roundup (30 January 2008): Citigroup chief says Chinese, Russian sovereign funds are top worry; Qatar buys stake in Credit Suisse; Indian SWF?

Concerns over China, Russia SWFs

At a recent finance conference in Brussels, Citigroup chairman Win Bischoff had a very interesting exchange with a German EU parliamentarian (Martketwatch):

“It is the China and Russia syndrome of sovereign wealth funds that is most concerning,” Bischoff told a finance conference in Brussels.

 

China and Russia are the main concern in the debate over whether to regulate state-backed investments, German member of the European parliament Wolf Klinz said. He said German companies are worried that China will steal its intellectual property and fear that Russian President Vladimir Putin wants to use investments “as a political instrument.”

 

“Yes, that’s a very good point,” Bischoff said, nodding at Klinz’s remarks.

Bischoff’s comments are particularly interesting because his firm has recently had several SWF investments approved by the Committee on Foreign Investment in the United States (CFIUS). I would imagine that he is familiar with what the US government’s main concerns have been with SWF investments.

Qatar likely to buy 5% stake in Credit Suisse worth $3 billion

The deal hasn’t been finalized and the stake could be slightly higher or lower. The interesting part of this deal is that Credit Suisse is not publicly recognized as having large subprime related losses, like all the other banks that recently received SWF capital infusions (Marketwatch):

Other than a $1.9 billion writedown related to the sub-prime crisis announced in November, the bank has so far emerged comparatively unscathed from the credit crunch. Sovereign wealth funds from Abu Dhabi, China, Dubai, Singapore and Kuwait have snapped up large stakes in banks such as Citigroup, Merrill Lynch, Morgan Stanley and UBS as they wilted under the weight of huge losses related to the implosion of the U.S. sub-prime mortgage industry.

See more on what the Qatar Invesmtent Authority has planned for the future in this interview chief executive Hamid Al-Thani gave to CNBC at the World Economic Forum last week (Dealbook).

India looking into creating a SWF

Indian government officials have SWF envy (The Economic Times):

While Sovereign Wealth Funds (SWF) owned by big Asian economies invest in assets the world over, Indian policymakers too are looking at whether the country needs to float such a fund. The finance ministry is planning to set up a committee to examine the pros and cons of an Indian sovereign wealth fund.

I’m not sure how much fiscal sense a SWF makes for India. The country is far less developed (infrastructure, education, basic health care, etc) than China and other export-oriented countries with SWFs, doesn’t have an abundance of natural resources, and is a democracy which means the government would likely be held accountable for the fund’s performance. How would the Indian government react to the public backlash from an investment gone bad a la the China Investment Corp/Blackstone deal?

More than a third of India’s population lives in poverty, while in China the percentage of the population living below the poverty line has fallen into the single digits; in absolute terms this is a difference of several hundred million people. How would the Indian government react to hundreds of millions taking to the streets and protesting a government that, from their point of view, is neglecting their dire condition to bailout a foreign investment bank? I just can’t see how there wouldn’t be an immediate change of policy if this type of situation arose in any democratic country, let alone poverty stricken India.

GCC dollar peg, inflation update

Qatar is considering following in Kuwait’s footsteps and dropping the dollar peg (Financial Times):

Qatar is reviewing its currency policy and could revalue or drop the dollar peg as the booming Gulf state struggles to tame inflation while the US reduces interest rates to head off a recession. Qatari officials on Wednesday said the gas-rich emir­ate was considering revaluing its currency or linking it to a trade-weighted basket of currencies as well as other policy proposals aimed at cooling rampant inflation of up to 15 per cent.

Inflation reeking havok on GCC businesses (Arabian Business):

More than half of Gulf businesses have been badly hit by rising inflation, with costs increasing faster than they can be passed on to customers, an ArabianBusiness.com survey has revealed. With inflation rising across the GCC, and predicted to hit a 20-year high of 12% in the UAE this year, 62.5% of respondents to the poll said the price of goods was rising too fast to be passed on.

Sovereign Wealth Funds ‘It’ Topic at 2008 World Economic Forum

2 years ago at the World Economic Forum the hot topic of conversation was hedge funds. Last year, it was private equity. This year, sovereign wealth funds were the ‘it’ topic at Davos.

In a session titled, “Myths and Realities of Sovereign Wealth Funds” a panel moderated by the Financial Times’ Martin Wolf debated and discussed most of the issues making headlines in recent weeks (centering primarily on the topics of transparency, objectives, motivations). The panelists included Lehman Brothers CEO Richard Fuld, Kristin Halvorsen of Norway’s GPF, Muhammad Al-Jasser of the Saudi Arabian Monetary Agency, Russian Finance Minister Aleksey Kudrin, Bader Al -Sa’ad of the Kuwait Investment Authority, Blackstone CEO Stephen Schwarzman, former US Treasury Secretary Larry Summers, and current US Deputy Treasury Secretary Robert Kimmit. Video of the hour-long session below:

Noteworthy comments that were made by the panelists (Reuters):

ALEXEI KUDRIN, DEPUTY PRIME MINISTER AND FINANCE MINISTER OF RUSSIA:

“When there was a period when traditional economies had strong funds and through several funds moved into markets and bought industries, we did not speak of restricting capital.

“Now (it is the other way around) we are having discussions about the aim of investment.

“It’s an interesting discussion – there is no cause for concern, but we are discussing a code of practice. Perhaps we are ahead of ourselves.

“So far, we have not identified any negatives but we are already talking about a code to protect us. Let’s first define what could give rise to concern.”

ROBERT KIMMITT, U.S. DEPUTY SECRETARY OF THE TREASURY:

“At this point, the history with sovereign wealth funds is they are generating higher investment returns without generating political controversy.

“Importantly, both fund management and investment decisions we have seen have been made on commercial not political grounds. We welcome that kind of investment in the United States. We don’t fear such investment.

“However, the growth in the size and the number of these funds is such that vigilance is required.

“Since Dubai Ports World, we have had over 200 cases that have come through the Committee on Foreign Investments in the United States — none of those has been blocked.

“The new investment law passed last July and further implemented by an executive order passed just yesterday…has struck a better balance on investment review between encouraging investment and protecting national security.”

LAWRENCE SUMMERS, FORMER U.S. TREASURY SECRETARY

“I would agree that the world is a better place because of those transactions that have taken place over the past three months. There’s not much that sovereign funds (have done) to date that one can be critical of.

“I do think there is potential grounds for concern here.

“Given we have made a decision that we are not going to invest our country’s money in companies because of the risk of politicisation, then it’s legitimate to be concerned about other countries’ use of those funds.

“The question is if we believe in market economies and we work very hard to create open markets and private enterprise — shouldn’t we be concerned with transactions that have an element, albeit a small element, of cross border nationalisation?”

STEPHEN SCHWARZMAN, CHAIRMAN AND CEO OF BLACKSTONE GROUP:

“Our experience with sovereign wealth funds is they are smart, long term, highly professional. All they are looking for is higher rate of return.

“We have a sovereign wealth fund as our largest stakeholder. It is indicative of the way a sovereign wealth fund would think. The first thing about that investment is it is a non-voting investment – that was important for them.

“We had originally asked them to vote with us, and they’d said they (would rather not). They are also a long-term shareholder.”

KRISTIN HALVORSEN, NORWEGIAN FINANCE MINISTER:

“The fund is an extremely long-term investor. In principal we are going to be shareholders forever. We are extremely transparent. Our investment guidelines are discussed in parliament each year.

“We have a very long-term horizon and that is not only to stabilise the Norwegian economy but also to stabilise global economy. We have ethical guidelines, to avoid our investments contribute to unethical acts. We are exercising these guidelines through our ownership rights.”

MOHAMED AL-JASSER, VICE GOVERNOR OF SAUDI ARABIAN MONETARY AGENCY:

“They have always taken a long-term stabilising role in financial markets.

“I don’t think there are any difficulties in understanding who is investing where. Regulators… make sure it is well-known and compliant with regulations.

“We should not look at sovereign wealth funds as a risk and a danger.

“Between the years 1983 and 2002 we had 20 years of budget deficits. “We need to provide oil for the world economy. We have managed that well for the sake of our economy but also for the sake of the global economy.

“Basically we’re trying to address a hypothetical situation — we’re talking about trying to regulate something that may happen.”

Al-Jasser said when there were similar calls for regulation on hedge funds the response was that would disrupt financial markets.

BADER AL SA’AD, MANAGING DIRECTOR OF KUWAIT INVESTMENT AUTHORITY:

“There is a lot of worry about sovereign wealth funds, but all of them are assumptions, they are not about real cases.

“Kuwait has been a shareholder in DaimlerBenz since 1969, it has probably been one of the most stable shareholders.

“Kuwait investment authority has one of the most regulated investment authorities. It is really well governed.

“For 55 years, we never had politically enforced decisions for our investment.

“We look at the bottom line, we don’t look at anything else. We have been passive in all our investments. We haven’t been active in any of our (holdings). All this fear about sovereign wealth funds has no real basis.”

Related stories of interest:

• Growth of soveriegn wealth funds seen as positive development (World Economic Forum official press release)
• SWF Seeks Loving American Man: The hottest session at Davos is about … sovereign wealth funds? (Slate)
• Sovereign wealth funds seek balance against Western regulation (International Herald Tribune)
• Who’s afraid of sovereign wealth funds? (BBC)
• SWFs belle of the ball at Davos (Arabian Business)
• Davos 2008: Policymakers clash over sovereign wealth funds (Times Online)
• Wealth Funds Hear Disclosure Warnings in Davos (Bloomberg)
• Saudi, Kuwait Resist Sovereign Fund Code of Conduct (Bloomberg)
• Foreign Capital Must Not Be Blocked (Financial Times)
• Sovereign Wealth Funds: Guilt until proven innocent? (Reuters)
• Sovereign Wimp Funds (Wall Street Journal)
• Blackstone CEO: Sovereign, pension funds the same (Pensions and Investments)

My take:

The overall discussion was relatively balanced. The only complaint that I have is minor. I would have preferred to see some representation from the Southeast Asian, export surplus-orientated SWFs on the panel. I thought the format was really good and that Martin Wolf did an excellent job moderating (not surprising, his FT columns are also excellent).

Larry Summers hypothetical examples, while certainly plausible to debate in theory, have never even shown signs of manifesting in reality and are thus not fair to argue beyond the abstract. Several of the panelists made the prescient point that it wasn’t fair to call for regulation and transparency for SWFs while not holding other large investors such as hedge funds and private equity firms to the same standard, especially considering that the former has had a destabilizing effect on the global financial system time and time again. I suspect that the people making the calls to regulate SWFs and make them more ‘transparent’ are smart enough to know this. There’s something else, something much larger at work here that I’m going to take an in-depth look at in my next commentary piece.

News Roundup (23 January 2008): US SWF backlash; Gulf response to US rate cut; China being patient; Abu Dhabi clean energy initiatives

US backlash to recent investments by sovereign wealth funds

Citigroup and Merrill Lynch are viewed more negatively by the American public on the heels of investments each firm accepted from SWFs (Financial Times):

Citigroup and Merrill Lynch’s standing among US citizens has plummeted as a result of multi-billion dollar capital injections by sovereign wealth funds, according to new research that highlights simmering public opposition to investments by foreign governments.

 

Over half of the 1,000 people polled by the market research group Strategy One said they “trusted Citigroup less” after its recent decision to tap Middle Eastern and Asian sovereign funds to ease its financial constraints.

 

In Merrill’s case, 45 per cent of the respondents said their trust in the bank had fallen since hearing of investments from foreign state funds, according to the research to be published on Tuesday.

The poll draws attention to the rising protectionist sentiment among the American public, which is in part being stoked by politicians like Hillary Clinton:

The new research – carried out early this month between the two waves of foreign investments in Citigroup and Merrill – also points to an underlying current of protectionism within the US public, which could be exacerbated by the rising threat of a recession.

 

“The Citigroup figure is staggering,” said Laurence Evans, president of Strategy One, which is owned by the public relations group Edelman.

 

“There is a xenophobic element to it. The biggest concern is uncertainty: people don’t know how much influence sovereign wealth funds will have.”

Gulf response to US rate cut

Gulf central banks, whose currencies are pegged to the US dollar, have decided to follow the US Federal Reserve’s 75 basis point interest rate cut with reductions of their own (Arabian Business News):

“The Gulf will have to match the Fed cut,” said Marios Maratheftis, regional head of research at Standard Chartered Bank. “This is going to create even more liquidity in the market which means more inflationary pressures.” Inflation in four of the six Gulf Arab oil producers has overtaken official lending rates, encouraging borrowing for investment in assets such as real estate, which is the main driver of the surging cost of living across the region.

Gulf Cooperation Council (GCC) central banks say that they remain committed to the dollar peg for now, but will leave the door open for coordinated currency revaluations in the future, to tackle rising inflation.

China in no hurry to buy credit crunch bargains

China is taking a more cautious approach to making investments on the belief that the worst of the subprime crisis is still yet to come (Reuters):

Beijing’s reluctance to buy into Citigroup coincides with growing expressions of concern by Chinese officials about the seriousness of the credit crisis. “The subprime loan issue has planted a ticking timebomb in the global financial markets. It now seems the impact is much more serious than the market had previously expected. I don’t think it will be over any time soon,” Vice-Finance Minister Li Yong said at a recent forum.

Abu Dhabi announces $15 billion clean energy fund, world’s first carbon neutral city

Abu Dhabi decides to invest in the energy technologies of the future (BBC):

The government of Abu Dhabi has announced a $15bn initiative to develop clean energy technologies. The Gulf state describes the five-year initiative as “the most ambitious sustainability project ever launched by a government:”. Components will include the world’s largest hydrogen power plant. The government has also announced plans for a “sustainable city”, housing about 50,000 people, that will produce no greenhouse gases and contain no cars.

What is a Sovereign Wealth Fund?: A Working Definition

The Council on Foreign Relations (CFR) has put out a very useful backgrounder on sovereign wealth funds.

In an attempt to define SWFs, the CFR gives a very generic definition, based primarily on the definition given by the US treasury:

Sovereign wealth funds, as defined by the U.S. treasury (PDF), are government investment funds, funded by foreign currency reserves but managed separately from official currency reserves. Basically, they are pools of money governments invest for profit.

Morgan Stanley, in an October 2007 report titled, “The Definition of a Sovereign Wealth Fund,” (PDF) argues that there is no universal definition of a SWF, but an investment vehicle can be classified as a SWF if it has the following 5 characteristics:

• Sovereign;
• High foreign currency exposure;
• No explicit liabilities;
• High risk tolerance;
• Long investment horizon.

In his Foreign Affairs article on the role of sovereign funds in the world economy titled, “Public Footprints in Private Markets,” former US deputy treasury secretary Robert Kimmitt notes that there are primarily 4 different ways in which countries can hold sovereign wealth:

• Sovereign wealth funds;
• International (or official) reserves (typically sovereign bonds in large, liquid and very low-risk markets);
• Public pension funds;
• State-owned enterprises.

The Morgan Stanley report goes on to add that there is a significant degree of overlap between the characteristics of SWFs and the other methods in which sovereign wealth is held, with the main differences falling primarily along the lines of risk tolerance and investment horizon.

Taken in sum, these 3 sources provide an excellent overview of the basic features of SWFs, and a good working definition of the term “sovereign wealth fund”.

Jim Cramer: ‘Financials earnings are fiction! Where’s the SEC, Department of Justice?!!!’

As only he can, Cramer passionately describes how and why the subprime mess happened:

As someone who has worked in the structured finance industry, I must say that he is not too far off on some of the things he says about the bond insurers and rating agencies.

Weekend Links (20 January 2008)

Some recent stories of interest:

• Davos-Sovereign wealth funds this year’s most in-demand guests: (Reuters)
• Economic uncertainty to dominate Davos: (Financial Times)
• One year on and the mood among bankers at Davos has taken a serious turn: (Times Online)
• China Investment Corp – transparency, accountability constitutional impossibilities: (Guardian Unlimited)
• China turns risk averse as capital outflows rise: (Financial Times)
• The new (financial) world order: (RGE Monitor)
• Silence not golden for sovereign funds: (Financial Times)
• A Guide to Speed Dating With Sovereign Funds: (NY Times Deal Book)
• Who’s afraid of Middle East money?: (Business Week)
• Regulators should intervene in bankers’ pay: (Financial Times)
• The Growing Power of Petro-Islam: (Newsweek)
• Subprime Nation: (Real Clear Politics)
• Abu Dhabi fund to break silence: (Arabian Business)
• ‘Green city in the desert’ for Abu Dhabi (Arabian Business)
• Gulf oil boom spreads to poorer lands: (Financial Times)
• President Bush Questions Saudi Ability to Raise Oil Supply: (Naked Capitalism)
• The Construction Site Called Saudi Arabia: (NY Times)
• Gulf Cooperation Council-Iran Watch: (Abu Aardvark)
• US Secretary of Defense: Iran a challenge, not a threat: (Inter Press Service)
• MEMO to US Presidential Candidates RE Middle East Policy: (Time)
• Red, White, and Blue Tag Sale: (NY Times)
  

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Sovereign Wealth Fund segment on Charlie Rose

Charlie Rose, hands down the best interviewer in the business, had Landon Thomas of the NY Times and David Enrich of the WSJ on his show last night discussing SWFs. They hit on most of the major themes (SWFs bailing out the US banking industry, reverse globalization, the SWF put) in the news recently (it’s the first segment, about 15 minutes long):

Enrich made an interesting comment about emails that he receives after writing articles about SWFs investing in US corporations. He says that many people complain about the US “selling out to foreigners” and “needing to learn Chinese and Arabic in the next ten years”. Thomas followed up by saying that there’s a xenophobic element in that type of criticism and the US isn’t as global as it thinks it is, especially when compared to places like London, Hong Kong, and Singapore. Hillary Clinton’s pandering at the last Democratic debate certainly speaks to these points.

Economist cover story: ‘Invasion of the Sovereign Wealth Funds’

The Economist’s cover story this week is a feature on Sovereign Wealth Funds.

The story gives a good overview of many of the basics such as size of SWFs, how they came about, how they’ve evolved, where they’re headed, and the issues facing SWF investing. It also includes a relatively balanced discussion on the motives of SWFs, which isn’t surprising as The Economist is probably the most fair and balanced mainstream publication around.

One point that The Economist makes, that has been completely absent from the mainstream debate thus far, is that the fear of politicizing foreign investments cuts both ways. The SWFs must be cognizant of possible retaliatory actions, such as asset freezes and/or asset confiscations, that can be taken against their investments for things such as political disagreements or court rulings that hold SWFs responsible for the actions of their host country’s citizens. The Economist cites the example of Britain forcing the Kuwait Investment Authority to divest from part of its’ stake in BP in the 1980s because Margaret Thatcher, in the midst of privatizing national assets, ‘was in no mood to see so much of a national treasure owned by a foreign government’.

Politicians scrutinizing the recent flurry of SWF investments should take care to remember that these infusions are in effect rescue capital that their government’s would likely be on the hook for had SWFs been deterred from investing, and that their own future geopolitical motives should be held to the same standard they want to hold SWFs to.

The article concludes, correctly in my opinion, by saying the chief threat that SWFs pose is that of financial protectionism and that it’s in the best interests of all parties to get along:

The hope is that both host countries and sovereign-wealth funds see that their interest lies in building confidence. The hosts stand to benefit from the funds’ capital. Meanwhile the funds are ruled by the politics of the places where they invest. You are only sovereign at home; abroad, someone else wields the power.

Sovereign Wealth Funds and Nevada Debate

During Tuesday’s Democratic presidential debate forum in Nevada, Brian Williams of NBC interjected the issue of sovereign wealth funds investing in the US economy into the debate when he directed the following question to Hillary Clinton (Full transcript):

BRIAN WILLIAMS: This evening on NBC Nightly News, our lead story was about the fact that Citigroup and Merrill Lynch have both gone overseas, as some put it hat in hand, looking for $20 billion in investment to stay afloat from, among other things, the government of Singapore, Korea, Japan, and the Saudi Prince al-Waleed, the man — Rudolph Giuliani turned his money back after 9/11.

 

This is — strikes a lot of Americans as just plain wrong. At the end of our report, we said this may end up in Congress. What can be done? And does this strike you as fundamentally wrong, that much foreign ownership of these American flagship brands?

This is a textbook example of a loaded question and Hillary, never one to shy away from an opportunity to pander, didn’t disappoint with her answer:

SEN. CLINTON: Brian, I’m very concerned about this. You know, about a month and a half or so ago, I raised this concern because these are called sovereign wealth funds. They are huge pools of money, largely because of oil and economic growth in Asia. And these funds are controlled often by governmental entities or individuals who are closely connected to the governments in these countries.

 

I think we’ve got to know more about them. They need to be more transparent. We need to have a lot more control over what they do and how they do it. I’d like to see the World Bank and the International Monetary Fund begin to impose these rules. And I want the United States Congress and the Federal Reserve Board to ask these tough questions.

I get Hillary’s overall political strategy and I understand that her statements during the campaign mean essentially nothing given her record of not saying anything substantive without extensive polling and focus group data. I even think her strategy is ultimately going to work. However, the problem with this approach to policymaking is that your agenda is going to be influenced by public sentiment rather than what’s right for the country. It’s sheer lunacy to take advice on international trade from the American public. If politicians want to deter foreign investment the least they can do is tell Citi, Merrill, Morgan Stanley, and all the other cash strapped companies where they can go to get financing, if SWFs are off limits.

The issue of SWF motive and intent deserves a much deeper look (which I am planning on doing in the near future) but in a nutshell the track record of sovereign investors very clearly demonstrates that their investment objectives have been the same as those of large pension and mutual funds. Government-sponsored investors in Asia and the Middle East have been among the largest holders of US government debt for several decades. These holdings have given them ample opportunity to do sinister things and cause substantial harm to US economic and geopolitical interests. The fact that they haven’t demonstrates what their true intents are; getting a good return on investment.

It’s important to note that Hillary’s logic would also apply to preventing and/or limiting foreigners from buying US government debt and US dollars. That would be a very, very bad thing. Again, this issue is much more complex and has many more layers that I will be exploring in greater depth very soon.

Back to the debate. Barack Obama gave a much more thorough and well-thought out answer to the question, even acknowledging that SWFs are bailing out the US banking industry. He also comments on one of the root causes of America’s current economic difficulties (dependency on foreign, fossil-based fuel):

SEN. OBAMA: Well, it’s not a rebuttal. I just want to pick up on a couple things that have been said.

 

Number one, part of the reason that Kuwait and others are able to come in and purchase, or at least bail out, some of our financial institutions is because we don’t have an energy policy. And we are sending close to a billion dollars a day.

 

And this administration has consistently failed to put forward a realistic plan that is going to reduce our dependence on foreign oil, is going to invest in solar and wind and biodiesel. You look at a state like Nevada. One thing I note is folks have got a lot of sun here, and yet we have not seen any serious effort on the part of this administration to spur on the use of alternative fuels, raise fuel efficiency standards on cars. That would make a substantial difference in our balance of payments, and that would make a substantial difference in terms of their capacity to purchase our assets.

 

And the second thing I just want to point out is that the — the sub-prime lending mess, part of the reason it happened was because we had an administration that does not believe in any kind of oversight. And we had the mortgage industry spending $185 million on lobbying to prevent provisions such as the ones that I proposed over a year ago that would say, you know, you’ve got to disclose properly what kinds of loans you’re giving to people on mortgages. You’ve got to disclose if you’ve got a teaser rate and suddenly their mortgage payments are going to jack up and they can’t pay for them.

 

And one of the things that I intend to do as president of the United States is restore a sense of accountability and regulatory oversight over the financial markets. We have the best financial markets in the world, but only if they are transparent and accountable and people trust them. And increasingly, we have not had those structures in place.

For what it’s worth, his understanding of the subprime crisis is much more nuanced than Hillary’s (Wall St made bad bets)……or is Hillary just pandering to the lowest common denominator again by bashing Wall St?

Bush of Arabia

Will President Bush’s sympathetic attempts to immerse himself in Arab culture help convince the Saudis to take measures that can lower the price of oil? Probably not.

Doing the traditional Arab sword dance:

Wearing a traditional Arab robe: