One of the more depressing pieces of emerging conventional wisdom is the notion that the financial system took on “too much risk” in recent years. I think it is equally accurate to suggest that the financial system took on too little risk.

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“political pressure sets in that SWFs have had to balance high profile/rscue…safety”. Are you thinking of political pressure in the SWF’s home country here?. How many SWF countries (except Norway and Canada) have governments that face political pressure on any issue. Or do you mean political pressure from the government to the SWF. But I always thought that SWFs were under the full control of the gvt (which does not preclude disputes between civil servants (in by book anyone who works for the government or a government owned enterprise/agency is a de facto civil servant, unless he/he is a military servant) and their political bosses)? But those disputes are irrelevant..

Frankly, brad, the old saying; be careful what you wish for comes to mind.

Perhaps it’s precisely because they know there is that certain level of tolerance beyond which political pressure sets in that SWFs have had to balance high profile rescue/investments with investment options that reflect the preference for safety?

On 4) No, not really — mostly because they aren’t in a position to understand it. But i also wouldn’t have bought equity in banks that are holding a big book of stuff that i don’t have the capacity to understand. Basically, if you buy a bank or broker dealer, you bought a lot of exposure to toxic securities.

Incidentally, some sov. funds are starting to use leverage — QIA, Mudadala, ADIC, Taqa (an SOE with SWF characteristics). And I would be curious to learn more about SAFE’s purchases of AA corps. The TIC data suggests significant Chinese purchases of corps over the past few months. However, the purchases of corp bonds from mid 06 to mid 07 (which were big enough to be noticeable — around $30b) disappeared in the survey — i.e. the survey showed almost no increase in chinese holdings of us corporate bonds between mid 06 and mid 07.

Anecdotes and the PBoC’s data on the state banks suggests that the state banks turned into net sellers (as noted above), so the recent purchases of corp bonds might be from SAFE — but it is something that I haven’t really been able to get a good grip on.

Incidentally, I wouldn’t be surprised if thes state banks were buying some of the paper US banks issued to fund their portfolio back when they were buying in 06, not just ABS/ MBS. I would be interested if you have any information on the type of corp bonds various Chinese actors have bought …

p.s. I presume China can buy covered bonds issued by European banks, not just by various European Agencies .. but correct me on this.

1. A note about transparency to sam’s important suggestion that SWF express views through vol trades.

Norway is the gold standard of disclosure – yet they are highly sophisticated users of derivatives and as far as I understand, are not required to disclose derivative positions. If in theory, for whatever reason, Norway wanted to take positions using any instrument other than underlying debt or equity, it could move or dominate a particular market or pose a systemic risk, and could do so without breach of disclosure requirements (remember the Icelandic banks?) Transparency and disclosure, while helpful to a certain extent, are no panacea. They might even be misleading and worse, give a false sense of comfort. Worrying.

It is easy for those sovereign investors who may be ill-intentioned or big risk takers to tick certain disclosure boxes and still make trouble – if that’s what they’re looking to do. It’s not as simple as making a long list at the end of the year of all the equity and debt positions they are long. One can find all sorts of creative ways to express investment views through very large liquid markets using multiple instruments. Better to focus on the “who is ill-intentioned” and “who is a big risk taker” part. I for one am not so worried about Norway. But not because they publish an annual report.

2. Sam’s point about sovereign investors and leverage is very key. The fact we have anyone who can pony up the cash right now has to be a stabilizing effect. Let’s hope the credit markets come back soon for everyone who dwells in the private sector.

3. I’m really sorry DC – “Fact, the China PBoC only owns US Treasury and GSE issued bonds” Re: SAFE, for at least several years they were officially able to buy down to AA corporates. They also buy European Sov bonds across currencies, as well as KFW, EIB all the supras and agencies around the world (many incl those denominated in USD), as well a covered bonds…they have to invest all that money somewhere, right? Also Brad is right about recent equity/other purchases. Don’t know about their derivatives positions either tho. Will be highly curious to see how their investment strategy evolves.

4. Brad – quick question on the “Sovereign funds have seemed more willing to buy the equity of banks that are heavily exposed to credit risk than to actually take on credit risk themselves.” I don’t know how many teams of RMBS,CMBS or CDO specialists reside within various SWFs – my guess is not a lot (tho there is plenty of “talent” floating around these days) but if I were a citizen of Singapore, I’d feel better about an equity investment in an investment bank that is trying to work out of a hole than an investment in blocks of toxic securities I know less about. Leave that to Lonestar. Do you think SWFs should be buying this stuff off the banks right now?

As for whether the Gulf funds are “sovereign funds” or the personal funds of the ruling family, the evidence is mixed. Qatar’s PM and foreign minister is also the head of the QIA and runs a big private porfolio. his personal fund put money into Barclays along with the QIA. Dubai’s sheik Mohammed runs the Dubai sovereign funds and his own private investment vehicles. ADIA supposedly is the funds of Abu Dhabi, but the Al-Nayhan family has its own private office as well. No doubt the various members of the Al-Saud family do as well. My sense is that these distinctions matter in the respective countries, though ultimately the same folks control both the SWF and their private funds.

i do suspect though that the prototypical Gulf SWF looks more like a private office of a very wealthy family in terms of its governance, disclosure and risk profile. Norway looks more like classic public money.

master of none/ aim — note that “diversification” into a new asset class (like commodities) could contribute to instability in that asset class if the flows are large. There is also a debate over whether commodity funds demand for “paper” commodities contributed or not to the rise in real commodity prices. I go back and forth on that.

Thanks for a good discussion; it helped me

Indeed, cut the budget deficit. From an economic point of view, only the interest expense is “UNTOUCHABLE”.