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CiteIt takes a bit of courage to put out a paper that is sure to get a few things wrong. But when it comes to the Gulf’s sovereign funds, the alternative to getting a few things wrong is not writing much at all. The funds cloud themselves in secrecy. Educated guesses have to substitute for analysis based on hard data.
The large Gulf sovereign funds are financed out of oil revenue, so the amount of new money they have to invest abroad is presumably linked to size of the fiscal and current account surpluses of key Gulf states. If – and it is a challenge – the path of spending and investment can be estimated, the size of that surplus will be largely a function of the price of oil. Production volume matter too, but in most circumstances production changes more slowly than price. And the Gulf funds are known to be large investors in the world’s equity markets, so their performance is likely to track, at least in broad terms, movements in major equity indexes. Sure, they have invested in “alternatives” – London real estate, private equity, hedge funds – too. But most “alternative” investments also have performed poorly over the past year.
Rachel Ziemba of RGEMonitor and I used these basic insights to built a model of the Gulf funds that allows us to estimate – very roughly – the trajectory of the various Gulf funds over the past few years. That model is only going to be as good as our assumptions – and while we made every effort to calibrate the model using available data it no doubt is going to be somewhat off. That probably isn’t the best advertisement for the Setser/ Ziemba paper on the Gulf’s large sovereign funds. But sometimes caveats are important. This is a paper with a lot of known unknowns.
Among other things, Rachel and I argue:
– The capital losses on the Gulf’s existing portfolio overwhelmed large inflows from high oil prices in 2008. Close to $300 billion flowed into the big Gulf funds — the Abu Dhabi Investment Authority/ Abu Dhabi Investment Council, the Kuwait Investment Authority, the Qatar Investment Authority and the Saudi Arabian Monetary Agency’s foreign assets. But the market value of their Gulf’s foreign portfolio fell by an estimated $350 billion over the course of 2008. Throw in a roughly $30b fall in the Gulf’s reserves as hot money betting on a revaluation left and the total value of the Gulf’s external assets likely went down over the course of 2008.
– The Abu Dhabi Investment Authority (ADIA) was never as large as some have claimed. If ADIA ended 2000 with around $150 billion (as the Wall Street Journal reported then), we would be surprised if it ever had more than $500-$550 billion. It now has substantially less. Its large equity portfolio implies that it, not surprisingly, had a rough 2008. We estimate that the combined external portfolio of ADIA and the Abu Dhabi Investment Council, a smaller fund spun out of ADIA in 2008, was around $330 billion at the end of 2008.* Even so Abu Dhabi is fabulously wealthy — $330 billion is a huge sum for Abu Dhabi’s small native-born population. Just perhaps not quite as fabulously wealthy as it once was.
– The Saudi Arabian Monetary Agency now manages the largest Gulf fund. SAMA benefited from holding a more conservative portfolio than the other large Gulf funds. We assume that SAMA put about 20% of the rise in its foreign assets** into equities. Given the size of its portfolio and the size of the fall in global equities, this meant it experienced a significant loss. However, we think it had a lower share of its portfolio in equities than the other funds and thus smaller losses. And since the Saudis pump more oil than anyone else in the Gulf, they also benefited more than anyone else from high average oil prices in 2008.
– The oil exporters should care far more about the value of their foreign portfolio when oil is worth $40 a barrel than when oil is worth $140 a barrel. At least if the oil exporter has a budget (or investment plans) that require more than $40 oil. Or if it has banks that may have trouble borrowing abroad in bad times. Some oil exporters likely were too keen to chase returns (and liquidity premiums) in the boom. That left them with a portfolio that fell when oil fell – and thus with less money than expected when they really needed the money. Any oil fund with a “stabilization” as well as an “long-term savings” function likely needs to pay more attention to its liquidity – and to holding assets that hold their value when oil falls. In the past year that was Treasuries.
On a more personal note, this paper presents the results of about three years worth of work. I first started to look into the growth in the oil exporters’ foreign assets in late 2005. It quickly became clear that not all of the oil windfall was managed by central banks – there was a notable gap between the Gulf’s current account surplus and its reserve growth. But tracking down the money wasn’t easy. The US data also didn’t provide many clues, as the Gulf’s recorded purchases of US assets were (and remain) very small relative to the Gulf’s external surplus.*** The BIS bank data didn’t help that much either. And that created a bit of a puzzle — the Gulf’s petrodollars seemed to be disappearing from the rest of the world’s balance of payments data. And there are few things that interest me more than puzzles in the balance of payments data.****
My new paper tries to fill in some of these gaps by providing a framework for estimating the size, portfolio composition and future growth of the major Gulf funds. It builds on my earlier work on oil and global adjustment and the work of Ramin Toloui, who showed that the IMF’s balance of payments data for key Gulf countries provided the basis for estimating inflows into the large Gulf’s funds. That data though comes out with a lag, and it doesn’t tell you anything about the size of the Gulf’s existing stock of assets. Rachel and I essentially built a model to estimate inflows into various funds — and then tied those inflows to a model portfolio. This model allows us to anchor our estimates of the Gulf fund’s current size and performance to an estimate of their past size and performance. That provides – or so we hope – the basis for a more informed discussion and debate over the past and future impact of these funds on the global economy.****
it also allows us to provide rough answers to some pressing current questions – like the size of the draw on the Gulf’s foreign assets associated with a fall in the price of oil to say $25 a barrel.
Do take a look. And let me know what you think.
*Our estimates for ADIA excludes the private assets of the Al-Nahyan family. That is true for the other funds as well. We haven’t tried to estimate the private wealth of any of the Gulf’s royal families.
** We actually assume that 20% of SAMA’s foreign securities portfolio — including the foreign securities portfolio of the Saudi government pension funds that SAMA seems to manage — is in equities.
*** The missing assets weren’t showing up in the banking data either.
**** It turns out, I suspect, that a large share of the Gulf’s dollar portfolio is managed by private fund managers, and generally managers based in London. Better balance of payments data from the UK would have helped to solve this mystery. But so far there is little evidence that Britain is all that interested in improving its balance of payments data.
***** The paper includes a detailed description of our underlying assumptions. If we are wrong, it will likely be because some of those assumptions are off.
Very interesting. and tanalizing. Everybody wants to keep other people from knowing their financial assets. Investment Banks in the U.S. greatly valued secrecy – even after secrecy as to the distribution of toxic assets was a major element in the lost of trust among banks.
I think we can be assured that the oil producing countries have plenty of dollars or Treasury notes, even if we do not know how much.
I thought the footnote on Saudi revenue going into private hands could have been expanded and included in the text, with a table of estimates for the rest, perhaps by adding a column to the existing table. You address this at the end of the paper so perhaps a cross-reference.
I also wondered at the list of assumptions. While they’re assumptions for the model, they’re derived from from work you sort of then discuss. So maybe a cross-reference or some other statement up front about where they come from. I got a little confused and then went, ‘Oh.”
I really enjoyed the paper and the only question in my head was the budgetary info, which is mentioned below Table 2 but with only one footnote and then at the head of Section 3, with that chart 5. Since so much of the paper depends on the needed price, that seems weak in terms of depth of discussion. I mean, to be clear, a projection of the effects of various oil prices changes meaning dramatically if the domestic need price is wrong. Also, shouldn’t this be part of the assumptions list?
Thanks for the fantastic work.
Thanks a lot for the brilliant work.
Analysis of the SWF size, inflows, and the composition of their portfolio is likely to elicit a lot more interest at the Council on Foreign Relations than analysis post the private inflows from Gulf oil proceeds.
From a geopolitical perspective: The Gulf states’ proceeds accruing from sale of their natural resources leave their sovereign government with a surplus. If this surplus is then banked with private depository institutions, those institutions would presumably make investment decisions from purely an individual fund’s profit perspective.
Sovereign Wealth Funds, on the other hand are liable to make decisions that have a geopolitical twist to them, and this can contribute to geopolitical security risk.
Xiachuan of SAFE and the other Xiaochuan of CIC, for instance, point out that no large investment fund can afford to reveal details of its plans in advance, because that revelation would cause losses to the fund simply due to its sheer size.You have to remember that a privately held fund is typically not asked to agree to disclosure norms, because a private fund presumably doesn’t pose any security risks.
Overall, things would be more simple for the common people in the oil surplus countries if their sovereign were to simply leave their investible surplus with private funds, rather than create these SWFs.
hmmm — Norway’s fund is kind of big, and it reveals the broad nature of its plans in advance (increasing its equity share) b/c it needed democratic approval to do so. it also reveals its portfolio composition with a lag. no one is saying a fund has to reveal it plans to buy x shares of y in advance, but there are plenty of examples of fairly transparent funds. ex post transparency certainly strikes me as possible.
agree tho that things would be better if the govs of some oil exporters didn’t control most of their countries wealth.
Jonathan — you are right. the oil break even calculation is central to our projections and we should have spelled it out a bit more. the calculation itself is more or less straightforward — we used the imf’s data from either the middle east regional outlook and/ or national article ivs. The methodology was explained in my earlier paper on oil and global adjustment. basically, you need to know oil export revenue and the current account. the gap between oil export and the current account is imports and other current outflows (this implicitly nets non-oil exports v non-oil imports). combine that with oil production data and the break-even on the BoP side is easy to calculate. We used BoP data generally rather than budget data for that reason, tho our calibration efforts generally found a fairly good correlation.
i also generally trust the bop data more than budget data. call it the bias of a BoP economist.
Dr.Setser / Pundits,
What is the oil break-even price ? (in USD)
(ie. How long oil needs to go down before it can hurt Gulf/OPEC_) ?
While Analyzing the Gulf oil flows it’s important to remember that there is a secular geographical shift in terms of petroleum resource availability.
The Persian Gulf countries have enjoyed a situation where they can afford not to tax people, and rely to a large extent on the proceeds from oil sales for economic sustenance.
There are relatively new discoveries of sizeable petroleum and petroleum gas reserves. Azerbaijan and Kazakhstan, the Caspian Sea rim countries are examples. Exploration of the Gulf of Mannar in Indian Ocean has shown significant reserves there. A lot of Petroleum gas has been discovered in the Krishna Godavari Basin in India. More crude will soon be extracted from Burma.
Th Government of Angola opened up competitive bidding for exploration blocks on its territory last week. The Democratic Republic of Congo, The Government of Sudan, and Nigeria are all Sovereign sitting on vast petroleum reserves.
It is completely unsustainable in the medium term for the Persian Gulf Sovereigns to rely on oil sales revenues to support the whole economy.
Therefore it would be wise for them, first of all, to think of building up other sectors. They have to work towards better education and skills for the local population, integrate more closely with the world’s economy.
Holding billions of dollars in financial assets doesn’t make any sense for those sovereigns. The money has to be put to work in some productive activity.
Rather than make empty speeches justifying the firing of rockets on Israel’s Eilat-Ashkelon Oil Pipeline, Ayatollah Ali Khamenei will create much better benefits for the common ordinary Arab people of the region by focusing on Persian Rugs rather than on Nuclear Missiles.
@Exporter:
The break even price for international crude is around $7.00. $7.00 is a very liberal estimate, and this estimate is based on common sense rather than macroeconomic expertise.
In Saudi Arabia, the cost of crude production is estimated to be $5.00 or thereabouts. Since the oil exploration and drilling are capital intensive activities, and since a lot of technical expertise is needed, there are significant barriers to entry in the oil and gas industry.
You have to remember there are many such industries which have similar barriers. Crude is trading at $35.00 levels today and you have to think about what causes the great difference, from $5.00 production cost to $146 market price, and so on?
That difference is largely a result of a Dr. Henry Kissinger geo-political brainwave consisting of “petrodollar recycling”.
I would look at Dr. Setser for 2 important estimates, though:
1) How long before Russia’s forex reserves will hit ground zero?
2) As exporter asks, how long before Iran decides to call it a day on Nuclear missile manufacturing and funding groups like Hezbollah and Hamas, etc?
Brad,
A very nice contrast to the SWF stories of only recently. Like the term SWF, those may well have been just investment bank sales support materials, designed to stroke the (prospective) client’s vanity by exaggerating wealth no one can verify.
This kind of analysis has one important weakness: given the coincidence of very high equity returns during the later part of the observation period with very large inflows, only a small change in composition assumptions (asset class/curency (less than asset class) may (i have not ben able to verify this but no doubt you have run a wide variety of assumptive factors) may in fact result in large changes in values as per the end of 2007. That could lead to a pretty wide band for plausible net changes in portfolio values for all of 2008, but probably without affecting the conclusions materially.
Nevertheless, this is very useful and it would be interesting to see if there are commentaries from people with more pertinent knowledge to verify some of the assumptions.
I guess the most important lesson proposed here is that, an investor relying on a -largely passive- income stream highly correlated with the business cycle, should be aware that a portfolio with a high proportion of equities etc (especially highly leveraged ones) simply increases return volatility, if that investor believes that equity returns are also, and concurrently positively correlated to the business cycle.
At least, I assume that is what you imply the equity investing GCCs have been doing. However, the relationship between oil prices (and in the GCC’s it should be a function of the oil price, net export proceeds) and , say MSCI returns is far from straightforward. There have been times when oil prices and fixed income prices were negatively correlated, and fixed income prices and equities positively. The latter correlation is also consistent with the CAP (lhigher bond prices, lower discount factors, CP). Only during the past ten years we have seen this relationship become unstable or even reversed, as the signaling role of interest rates has declined (interest rates also affected of course by BWII) whilst less tangible elements of valuation, until recently, began to dominate. To what extent institutional investors without defined liabilities should overweight bonds over equities in the current environment is of course anyone’s guess, especially dependant on how one expects the current cycle to develop. Several of the GCCs are sitting on oil-in-the ground- assets worth a high multiple of their financial assets assuming prices in a +/- 20% range around US official lang range oil price forecasts. To what extent they can optimize the income stream from those assets is far more important than their portfolio returns. Ideally they have high returns on both, but that may well be an elusive combination that just happened to occur during 2006 and 2007, unlikely to happen again for at least 5 years. I guess that the “high equity” strategies (if real) simply failed to understand that a downturn as we are experiencing now could happen so soo, and more in particular the value destruction that has taken place among financials. I doubt the old men that own the GCC revenue streams (effectively) would have forgotten how hard it is to keep commodity prices high, so irrational exuberance re that part of their return mix should not be assumed.
Indian Investor-
could you elaborate a little bit on “Henry Kissinger’s brainwave consisting of “petrodollar recycling”.
I’m not aware of this concept. thanks.
Indian Investor: Sovereign Wealth Funds, on the other hand are liable to make decisions that have a geopolitical twist to them, and this can contribute to geopolitical security risk.
They actually aren’t. Fund managers make lousy diplomats and diplomants make lousy fund managers and if you try to combine the two functions, then you end up with an organization that is not good at either making a profit or advancing geopolitical goals.
The structure that seems to work is for the SWF to get broad mandates about what they can do and what they can’t. If the government wants to make do geopolitical things, then they can just make a withdrawal from the SWF. If the government wants to fund projects with explicitly geopolitical aims, they can create a structure other than an SWF to do that.
Indian Investor: You have to remember that a privately held fund is typically not asked to agree to disclosure norms, because a private fund presumably doesn’t pose any security risks.
Privately held funds are required to disclose a lot of things, and a lot of business of handling a fund is not to trip over the limits that require disclosure. If you are doing anything that involves gaining control over a public company or a private company with a strategic industry, you have to start filing tons of reports with government regulators. Most of those disclosures are kept confidental.
Indian Investor: Overall, things would be more simple for the common people in the oil surplus countries if their sovereign were to simply leave their investible surplus with private funds, rather than create these SWFs.
That would be insanely stupid, since if you just give a check to a private fund and don’t provide any sort of oversight, they can and will rob you blind.
If you manage a fund with about $20 billion, it’s simplier and more cost effective to hire fund managers that work for you that have no conflicts of interest. Even if you want to outsource things to other companies figuring out who to hire as a fund manager, monitoring them to make sure that they are doing good work, is very non-trivial.
Indian Investor: As exporter asks, how long before Iran decides to call it a day on Nuclear missile manufacturing and funding groups like Hezbollah and Hamas, etc?
When Europe gets annoyed enough to stop buying oil from Iran. Iran is a huge exporter of oil, and if it did something that Europe found unacceptable, then its economy would get crushed. It hasn’t hit that point yet.
@curios: It would take a long essay to describe petrodollar operations and I’ll try to be brief. Dr. Henry Kissinger’s petrodollar recylcing scheme is the greatest macro economic invention from the World Peace ideologues, after the late Lord John Maynard Keynes successfully argued that widespread unemployment from Credit Panics should be solved by having the Sovereign borrow huge amounts from the private bankers and spend it on public works, instead of attacking some neighbouring country with troops.
Petrodollar recycling is a means to control the belligerence of Sovereign powers by bringing World Peace dominated large Private Depository Institutions between a Sovereign that has a surplus and other Sovereigns that are willing to borrow into a Deficit.
The incumbent Richard Nixon administration in 1971 was faced with tasks parallel to what Obama faces today. The 1967 Golan Heights misadventure in the Middle East and the Vietnam War had made expensive foreign campaigns unpopular and large deficits had been accumulated in exchange for political influence against the Soviet block.The German Bundesbank demanded conversion of US dollars in its forex reserve to gold.
Nixon decided to declare non convertibility of dollars of gold, and combined this with a 10% import duty; several new legislations were made to control prices and wages in the US. The combined effect was disastrous for the US economy.
The US dollar collapsed against major world currencies and imports became impractical, leading to hyperinflation. At the same time domestic employment levels were positively impacted. I found an interesting paper from a Federal Reserve Governor in 1973, where he uses the newly manipulated statistics and the above underlying situation to deny the Phillips Curve!
Dr. Kissinger made agreements with the Shah of Iran and other Middle East Sovereigns: The technology for oil exploration and extraction came from American and British oil companies. The Middle East Sovereigns would become military protectorates of the US. In return for security and technology, these Sovereigns agreed to denominate their oil sales in US dollars and the informal understanding was that they would bank their surplus proceeds privately in New York and London.
Later, a 400% increase in oil prices was orchestrated, and this increased the world demand for the US dollar as a currency far beyond the underlying macroeconomic fundamentals of international trade. The 400% increase was explained as being a result of us having come close to running out of oil under the earth surface, back in 1971
What did the banks do with the petrodollars? They lent money to capital hungry sovereigns in South America and elsewhere. Now you see that this scheme helps the entire World Peace scheme of financial control over Sovereigns. Soon various Credit Panics were triggered in the South American countries and ownership of their banks and industries was steadily consolidated.
One Sovereign directly lending to another is a big problem for the World Peace ideologues. If they are in between, they can trigger Credit Panics with greater ease. They also make very huge profits in between. Most importantly they can control the two sovereigns from coming together and waging belligerent wars against anyone else.
@Twofish:
I noticed that you have made many insightful observations at this blog. You can get to know more about the SWF issues by reading the Council on Foreign Relations special report on FDI. It covers many of the controversial FDI battles and the SWF involvement in them comes up.
I repeated the Xiaochuan arguments from an interview above though I don’t agree with them. Xiaochuan also wonders why the additional disclosure norms were insisted upon as soon as China formed a SWF.
You’re right in pointing out that if a foreign sovereign wants to secretly buy certain firms and ensure transfer of militarily relevant technology from them, they should find a better way than SWFs. On the other issue your insight that a very large %ge of Iran oil exports are to the EU is correct.
The SWFs aren’t in a good situation to disclose their holdings periodically, because if they do that, they can’t secretly buy high tech electronics firms and the like, and build dangerous missiles and aircraft carriers in the background.The issue is that the SWFs are refusing to make the same disclosures that are normal for all the other private funds. I’d like to be corrected if I’ve made a mistake in this argument.
Brad,
Interesting approach. Would be interested in data around the critical period (2005/7) re different assumed asset/currency mixes. Given coincidence of very high net oil receipts and equity returns, results may be very sensitive to assumptions.
Re suggestion that both oil prices and euity returns are positively correlated to business cycle and thus equity investments unsuitable for investors dependent on oil revenue stream for primary income, that may have been the case during past say 12 years, but in earlier periods both equities and fixed income were negativelt correlated to oil prices. Higher oil prices-> higher inflation -> higher interest rates ->lower equity valuations. Valutaions for all kinds of assets (equity, commodities, real estate) had uncoupled from interest rates in the 2005/7 period but for hitherto poorly understood reasons. Possiblly BWII, possibly fratricidal competition between financial institutions. Job for economic historians to find out.
For a GCC investment entity sitting on top of oil reserves worth 20 to 40 times financial investments, perhaps the financial portfolio returns are assessed in a different way than say by the Future Fund or a pension fund with defined liabilities.
Nothing wrong with the analysis though, once you believe the assumptions.
There are lots of different ways of defining the break-even price. One way is the marginal cost of production — i.e. when does it make sense economically to pump an existing field. One is the break even for new investment — i.e. when is the investment profitable.
But for BoP analysis for oil-exporters, the break-even is the oil price that covers the countries import bill (i.e. it assumes that the oil exporters need to make money on their oil to support their current lifestyle). If oil is above the BoP break-even the country runs a current account surplus; if it is below that price, it runs a deficit.
The same concept can be applied to the budget. The fiscal break-even is the price at the which oil revenues covers spending. If oil is below that price, there is a deficit.
For the Gulf, the BoP break even is now around $50 a barrel (my estimate).
Curious,
You must be very young
2fish — i think the CIC promised at one stage to match Norway’s transparency. Most public pension funds also disclose their holdings with a lag, and disclose what fraction of their assets is invested in alternatives and the like. China hasn’t matched that level of transparency.
and i certainly don’t see why it cannot disclose its total foreign assets monthly with a one month lag. Chile’s fund does. So doe the Kazahk fund. Norway too.
High levels of secrecy are only the norm for SWFs b/c most funds historically have come from the Gulf, where public disclosure isn’t common (in part b/c most gulf states aren’t democracies).
bsetser: i think the CIC promised at one stage to match Norway’s transparency.
And they have. We know all of CIC’s holdings, it’s just with most of their assets in cash and no immediate plans to purchase anything, there really isn’t much to disclose. This also applies to the NSSF, and the abortive SWF that SAFE was trying to put together.
bsetser: China hasn’t matched that level of transparency.
It depends what parts. The state holding companies are very quiet about what they are doing, but the SWF’s are not.
bsetser: High levels of secrecy are only the norm for SWFs b/c most funds historically have come from the Gulf, where public disclosure isn’t common (in part b/c most gulf states aren’t democracies).
High levels of secrecy are the norm because they are working with investment bankers and fund managers who are very secretive.
In the case of China, the State Council generally wants corporate entities to be transparent because when they are hiding something, it’s usually because they are hiding something from the government and regulators.
To Indian Investor: If you can point to the book or website that you got these ideas from, I’d appreciate it because they are dangerously out of sync with what I’m seeing.
Indian Investor: What did the banks do with the petrodollars? They lent money to capital hungry sovereigns in South America and elsewhere. Now you see that this scheme helps the entire World Peace scheme of financial control over Sovereigns.
And when the oil bubble burst in the 1980′s, the big banks in the United States lost their shirts. It ended up being a very painful lesson to everyone about what not to do, and a lesson unfortunately people quickly forget.
Indian Investor: Soon various Credit Panics were triggered in the South American countries and ownership of their banks and industries was steadily consolidated.
And the big banks lost huge amounts of money in the process. You are overestimating the ability of people to control things and vastly underestimating human stupidity.
Sometimes I wish that there really *was* an evil conspiracy running the world since all you have to do is be on the side of the conspiracy and you are safe. However, the truth is that people (including me) are idiots, and that makes the world a scary place because there is nowhere safe.
If you really want to understand why the world is they way that it is, read “Dlibert.”
Indian Investor: You can get to know more about the SWF issues by reading the Council on Foreign Relations special report on FDI. It covers many of the controversial FDI battles and the SWF involvement in them comes up.
I can also know more about sovereign wealth fund issues by going through my business cards and calling up people that work in sovereign wealth funds. The finance community in NYC isn’t huge and you get to meet a lot of interesting people if you stay around here.
The fact that oil exporters denominate their exports in dollars is completely irrelevant. The fact that Middle East oil barons put their money in New York and London is also rather irrelevant. I mean, if you have $100 billion, what else are you going to do with it?
A lot of the reports that have been issued by think tanks contain bits that I think are odd, because they often miss the real motivations behind why things are happening.
Also being on the trading floor gives you a good sense for how chaotic and confused things are, and how no one is in control. That is the frightening beauty of markets. People influence the markets, but no one is in control of them.
And if I thought for a moment that someone did actually intentionally engineer the credit crisis, I’d find a nice big cream pie and kindly smash their face with it. Once people know why I did that, then there would be a long line of people wanting to do the same thing.
2fish — leaks to the press that cannot be verified aren’t quite the same as real disclosure. And frankly i wouldn’t have half the trouble i do estimating china’s true foreign reserve growth (including the cash held by the CIC) if there was a data series on its size. i assume it now has $19b less than in sept b/c of ABC, but i cannot prove that .. and so on. same with the transfer of funds in q1. the cic simply isn’t living up to that particular promise on transparency. sorry.
and i rather suspect that if safe did a bit more public disclosure the state council wouldn’t have been surprised to learn it had $500b of agencies and we might be in a better place now, as there wouldn’t have been the huge over-reaction back into cash.
The sovreign wealth funds got hammered in mark-to-market terms, but the proper criterion for judging endowment funds such as these is the estimated present value of the future drawings from the funds. What damage, if any, have the funds taken by that standard? If the Saudis are using the current opportunity to shift significantly into equities, the crisis may even have increased the expected present value of future drawings.
I ask the question because I judge that the people taking strategic decisions for the funds are long-sighted investors with an Islamic focus on outcomes rather than market fluctuations.
most gulf states are now drawing on their funds to cover the 09 budget and finance domestic bailouts/ investment projects, so i think it is fair to think about what they are worth when oil is low and the countries in question need to draw on their foreign assets.
bsetser: leaks to the press that cannot be verified aren’t quite the same as real disclosure.
The information that CIC has delivered has been interviews and press releases, and has generally been sourced attributed. CIC has been far more visible and available to the press than any other SWF that I know of. I don’t see how CIC hasn’t been involved in “real” disclosure.
Personally, I think that a good intense interview with the head of the SWF, contains far more useful information than financial numbers.
bsetser: And frankly i wouldn’t have half the trouble i do estimating china’s true foreign reserve growth (including the cash held by the CIC) if there was a data series on its size. i assume it now has $19b less than in sept b/c of ABC, but i cannot prove that .. and so on
ABC is unusually because it hasn’t been listed yet, but these transfers are in the annual reports. The other holdings of CIC are publicly listed so any major transfer of funds are reflected in securities filings.
It’s not in one place, and it takes some effort at collating the data, but there isn’t much about CIC that is opaque. Now when and if CIC starts investing money in 100 companies rather than 10, it will be much, much harder to track, and at that point, any complaints about CIC not being transparent will have much more teeth to them.
On the other hand, if CIC decides to be a financial state holding company rather than diversified SWF, then it’s going to be relatively easy to track holdings.
bsetser: and i rather suspect that if safe did a bit more public disclosure the state council wouldn’t have been surprised to learn it had $500b of agencies and we might be in a better place now, as there wouldn’t have been the huge over-reaction back into cash.
1) unless you have information I don’t, then I don’t think that the state council was surprised since everyone else in the world knew about agencies holdings, and
2) What did surprise everyone was that until last July GSE debt was viewed as Treasury equivalents. China can be faulted for making that mistake, but so did everyone else in the financial world.
In any event, Agencies aren’t Treasury equivalents now.
Agencies have become rather risky since Treasury’s guarantee extends only to $100 billion per GSE, and it’s very plausible that the losses in the GSE will exceed that. The GSE’s have about $2 trillion each outstanding which means that all you need to overwhelm the Treasury guarantee is a 5-10% default rate in prime mortgages which is quite plausible.
Right now if China dumps agencies there are a lot of people who are willing to buy them for a rather small risk spread. However it it doesn’t get out now, then it risks massive losses if something bad happens.
It’s the difference between a certain 10% loss, and a 10% chance of a 100% loss. Right now China is willing to take the former to avoid the latter, whereas there are lots of people right now that are willing to take the latter bet.
Heigham: I ask the question because I judge that the people taking strategic decisions for the funds are long-sighted investors with an Islamic focus on outcomes rather than market fluctuations.
People that make strategic investment decisions in SWF’s tend to come from the community of pension fund managers. Financial is quite international. People usually don’t care very much what nationality and religion a person is, and there are no differences in cultural outlook, that I can see between pension manager that is an Islamic Saudi and a Christian Peruvian.
Where there is a cultural need it can be satisfied. Western investment banks that deal with the middle east invariably have access to a staff of Islamic clerics that can issue legal opinions on the whether a financial structure is permissible under Sharia law. From the point of view of the bank, it’s just other compliance issue.
What makes a huge difference is not culture but compensation. If you reward people for making short term decisions and punish them for making long term decisions, that’s exactly what they will do, since if they won’t, they get fired.
Brad,
Tried to post a few times earlier yesterday. Briefly, your analysis is very helpful, since it deflates the hype generated by investment banks (trying to stroke clients’ ego) and scaremongers (who believed that a short term move is a trend). However the analysis is og course vulnerable to your assumptions re asset/currency mix. Much could have happened in the past three years (the period when the GCC funds more or less doubled or tripled) by bad or good timing of sales and purchases, application of hedges, etc.
As to the remark about oil exporters (sensitive to the world business cycle) investing in equities (likewise), I think that matters are a lot more complicated than that. There was a time when bond prices and equities were positively correlated, and oil prices and bonds negatively, for instance. I think that the business cycles drives oil prices in the short term, and then oil prices act somewhat like a consumption tax. But no one knows what drives oil prices (there is no oil equivalent of things like the CAP for stocks), or at least there are no widely rspected theories as far as I know. We do know that anticyclical/antiinflationary monetary policy as widely practised would tend to aggravate the impact of rising oil prics in the short term, leading to equity expectations of lower profits and (somewhat later) lower interest rates. Since the interest rates and profit expectations are important, but opposing elements in the CAP, it depends what stocks do. Traditionally, stocks rally close to the bottom of a recession, before oil demand starts rising again and bond prices become iffy. Hence I am not so sure that an investor relying on an oil based revenue stream (and with ample liquidity and without investment constraints or designated liabilities) could do very well by having a strong equity component. With the benefit of hindsight, of course the GCCs (if your analysis is correct) should have underweighted equities before the end of 2007.. But as a general rule, I think that the very rough correlation of equity returns and oil revenues, does not rule out a successful equity strategy. Bond prices can also fluctuate quite a bit, and just imagine what a breakdown of China’s currency management strategy combined with reluctance to fight incipient inflation in the West (and absent the mortgage crisis), would have done for bond returns, even default-free ons.
Brad,
I assume you’ve seen this?: Crunch ‘cost Arabs $2.5 trillion’ [BBC].
$2.5 trillion in “arab” investment abroad would be higher than our estimate for Gulf SWF and CB foreign holdings — which we think peaked around $1.5 trillion. but there are obviously private investments abroad (including private investments by the ruling families). most estimates put those holdings at around $500b but there is a bit of uncertainty. and there are companies with foreign assets, so it isn’t totally implausible …
Your study got referenced in the wsj today:
http://online.wsj.com/article/SB123246890427498251.html?mod=yahoo_hs&ru=yahoo