Sovereign wealth funds: wise or fool?

July 30, 2010

It is commonly known that the mighty sovereign wealth funds industry suffered unrealised losses to the tune of $80 billion after its investments into failed Western financial institutions imploded at the height of the financial crisis.


Peter Cohan and Srinivasa Rangan, in their new book Capital Rising, paint a surprisingly dire picture of the $3 trillion industry, saying that SWFs were lacking in sufficient due diligence.

“It was clear from an April 2008 conference at Stanford University… that the Fed believed the SWFs to be greater fools rather than significant threats. At the conference, an economist from the San Francisco Fed suggested, without officially saying it, that despite their big wallets, SWFs were not the brightest investors on the block.”

They add that SF Fed economist Reuven Glick did not view SWFs as having done sufficient due diligence. “If China had read the prospectus, it could have saved itself the embarrassment of what was then a 46% drop in the value of its Blackstone stake.”

“SWFs should conduct intensive due diligence before investing. SWFs should have been far more inquisitive about the reasons the United States was so eager for them to invest in its financial institutions… There were many red flags that an investment would be fraught with risk — but this did not stop China from making its May 2007 $3 billion investment in Blackstone that had lost 80% of its value by January 2009. Basic due diligence about that investment would have revealed its perils.”

It is true that China’s sovereign wealth fund did shift its strategy away from buying Western bargains to focusing on strategic purchases such as natural resources after the credit crisis. It’s debatable, however, that whether all of these investments turned sour in actual terms. For example, Abu Dhabi and Qatar’s stakes in Barclays would have more than doubled since their purchase in October 2008.

Moreover, it’s also hard to imagine they don’t do basic due diligence such as reading the prospectus. With the fast-growing SWF industry shaping up to be a big source for revenues and fees, the world’s major investment banks and asset management firms must be queuing up to grab advisory businesses from them.

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This was indeed the perception of SWFs at the time, which I think is unfortunate. But, I have to say, it strikes me as equally naive on the part of the Fed to call all SWFs “fools”. While the CIC was new to the game, others (such as those from Singapore, Kuwait, Abu Dhabu, etc.) had been doing at this for decades. And, by the way, who could have predicted the magnitude of the financial crisis at the time? Surely not the Fed…

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