This week, the Abu Dhabi United Group for Development and Investment, the sovereign wealth fund of the country’s ruling royal family, completed its £210m takeover of Manchester City Football Club, in a move that has prompted much head-scratching from some quarters and talk of becoming the richest football club in the world in others.
In the October edition of the official magazine of Arsenal Football Club, manager Arsene Wenger says: “I don’t know why these people are in there. It doesn’t look like they are there to make any money. So if they are not there to make money out of it, then are they buying it out of love?
“Well, I am not sure these people are supporters of Manchester City from a young age. So then comes a further question: Why are they doing it? Why have they bought the club? I really can’t find a rational answer.”
Similar questions are being asked of sovereign wealth fund investments in some of the West’s largest banking institutions. Last year, the Government of Singapore Investment Corporation (GIC) spent about £5.5bn on a 9% stake in UBS, whose shares have since dropped by 46% this year.
At the end of 2007, the Abu Dhabi Investment Authority – at one point mistakenly reported as the new owner of Manchester City – invested US$7.5bn in Citigroup. Two months later, GIC followed with a further US$6.88bn injection into the bank. By March, however, Citigroup’s shares had reached their lowest close since November 1998 at US$22.10 and have since dropped below US$20, more than 40% lower than at the time of ADIA’s investment.
Similarly, China Development Bank and Singapore’s Temasek’s respective £1.5bn and £1bn investments in Barclays, and China Investment Corporation’s purchase of a 10% stake in Blackstone Group for US$3bn and US$5bn for Morgan Stanley stock are now being talked up as significant losses for the investment funds. This comes despite their track record as long-term investors.
The problem is that their track record is little known and the firms themselves are only just emerging from the shadows. Like private equity firms before them, sovereign wealth funds have belatedly come under the gaze of the public, ostensibly in the guise of the national media, as their investments horizons have widened to increasingly larger and better-known targets.
As key western brands have enjoyed capital injections or outright takeovers by sovereign wealth funds, many have, like Wenger, questioned the motivations and identity behind these investment arms.
While the sovereign wealth funds, again like their private equity counterparts, may point out that, with histories generally dating back to the 1990s and sometimes the 1970s, few people have been interested in their activities to date, they also understand that it is in their interests to provide some answers.
Commentators have expressed concern about the transparency of sovereign wealth funds, their investment strategies, their size and whether their investments might be affected by political objectives. At the same time, concerns have been raised about the potential for protectionist restrictions being imposed on sovereign wealth fund investment, which could in turn restrict the flow of investment capital.
Global law firm Norton Rose, together with the Emerging Markets Private Equity Association, conducted a survey to canvass opinion on such matters from leading sovereign wealth funds, as well as from the private equity industry, financial institutions and corporates.
“These institutions are not new,” says Ian Moore, partner at Norton Rose. “Many have been around for a long time, such as ADIA, which has been active since its inception in 1976.”
Since then, it has amassed estimated assets of US$875bn, making it the world’s largest investment fund, comfortably ahead of Norway’s US$396bn Government Pension Fund and GIC, which manages US$330bn.
According to the International Monetary Fund, and International Financial Services London, sovereign wealth fund assets are now estimated to be close to US$3.3trn, rising to US$10trn by 2015.
Moore, however, acknowledges that the funds have to be more forward-facing, given the size of their recent transactions.
“One of the historical issues is that they have been notoriously guarded,” he says. “However, evidence suggests they have recently had to embrace certain public relations and marketing functions, whereas before there was no compulsion to engage with public enquiries.”
According to the survey, sovereign wealth funds’ lack of previous disclosure on their investment strategies may have led to some division among non-SWF respondents as to whether the funds are focused most on returns, recognition or strategic benefits. About 35.5% of all respondents identified “the highest economic return” as the most important investment criterion, but 36.4% opted for a more complex answer of “potential strategic benefit/investment for relevant wealth fund jurisdiction”.
Middle East-based SWFs, said Norton Rose, gave the impression in written responses that their investments were intended to help develop the skills needed for their newer industries, such as financial services and tourism. Some 20% said that there was a desire for “premium brands” or “market credibility”.
“There has been a possible trend that sovereign wealth funds have been attracted to strong brand names, perhaps considered by some as trophy investments,” says Moore, pointing to examples including investments made in Sony, EADS and Ferrari, as well as UBS, Barclays and Merrill Lynch.
He also notes the importance of building a track record in certain businesses, saying: “There was an anticipation, from responses in our survey, that in certain areas the funds are learning from existing businesses and using that valuable experience.”
Such variation in responses, however, suggests that sovereign wealth funds need to communicate their strategies more clearly, although there was more of a consensus on the long-term nature of their investments and its appeal to potential investees.
Overall, 42.9% of respondents chose longer investment horizons as a key driver for seeking sovereign wealth fund investment, with “more passive investment strategy”, “size of funding requirement” and strategic benefits afforded relatively equal weight.
The relationship of sovereign wealth funds with private equity was seen to be very significant going forward, on both sides. When asked about the comparative approach of SWFs and private equity firms in relation to the term of their investments, 71% of SWF respondents regarded themselves as longer-term investors, matched exactly by non-SWF respondents.
“Arguably, there is not the cyclical pressure to exit as with a private equity fund; instead the sovereign wealth fund is seen to have a more long-horizon approach,” says Moore.
There was also general agreement that sovereign wealth funds were potential collaborators with private equity, not competitors: some 70% of non-SWF respondents said that SWFs would increasingly co-invest with private equity funds in some way. More than 40% pointed to co-investment on deals, with 12.6% predicting buying stakes in private equity managers and 15.5% in their funds.
“Our survey results suggest they are passive long-term investors, but they are also commercial,” says Moore. “They can invest in a private equity fund or co-invest alongside a fund. At the moment, there is not the feeling that they are the competition to private equity, rather they are seen as complementary. Private equity offers a different model, and can exert very specific geographic and industry expertise.”
There was some disagreement on the approach of sovereign wealth funds and private equity to risk, with 71% of SWFs believing they had a similar risk profile, but 41% of non-SWF respondents believing SWFs were more risk-averse and 36% as less risk-averse.
Like private equity practitioners, sovereign wealth funds have a strong interest in North America, with 30% of respondents singling out the US as the likely top destination for SWF funds, and with almost a quarter looking to Western Europe.
Emerging markets also proved attractive, with more than 70% of SWFs and 56% of all respondents estimating that more than 25% of all sovereign fund investments would be made in emerging markets over the next 12 months.
In terms of sector, financial services, infrastructure and energy, especially oil and gas, were seen as preferential industries for sovereign fund investments over the next 12 months.
Transparency proved the most contentious issue for sovereign wealth funds, with 80% of all respondents indicating a need for more information, and with close to half preferring the voluntary code of best practice as undertaken by private equity’s largest houses and outlined by Sir David Walker in the UK last year.
One-third said a formal, multi-jurisdictional system enforceable by law should be considered, although 63% of non-SWFs said such measures could discourage investment. However, the sovereign funds themselves were less certain, with 71% saying it would depend on the nature of those requirements.
Intriguingly, 60.6% of respondents felt that a lack of transparency rules could be more damaging for sovereign funds as it would be likely to result in governments restricting investments by the funds.
“In terms of regulation, our survey responses do not anticipate there will be any formal statutory code imposed on sovereign wealth funds,” adds Moore. “It would be like trying to impose a statutory code on private equity.”
However they choose to operate, Moore concludes that rather than simply being cash cows, “it shouldn’t be underestimated how sophisticated these organisations are” nor how astutely their absence would be felt if they were to withdraw their presence and capital in the future.
“The credit crunch is being felt by everyone, including sovereign wealth funds, for which it will still be important not to fritter away important cash reserves,” he says.