Sovereign Wealth Funds (SWF) are state sponsored funds invested in various financial assets in markets around the world. The SWFs are usually financed and supported by country’s Foreign Exchange Reserve, the monetary surplus in foreign currency that the state has accumulated in the international markets through exports and inflow investments, subtracting its imports and outflow investments. However, the SWFs are usually managed separately from nation’s official foreign currency reserves. The goals of the SWF obviously are to preserve nation’s wealth savings and to grow the assets of funds overtime. Due to the nature of extremely low risk required by the governments, SWFs generally do not pursue the highest investment profits instead focusing on the safest and the most stable returns.
There are two types of Sovereign Wealth Funds, depending on the sources of the finances, i.e., commodity or non-commodity incomes. Countries with large nature resources and energy exports usually establish commodity based SWFs. In fact, the first sovereign wealth fund was started in Kuwait, 1953, in order to reinvest its excessive oil commodity revenues. As a result, it is no surprising to see the top 10 largest commodity SWFs are all from oil and gas nature resource rich countries. Abu Dhabi Investment Authority is the largest fund with total assets reaching $627 billion, followed by Norway Government Pension Global Fund with assets of $512 billion. Russia’s National Welfare Fund is relatively new but has moved up quickly with assets of $143 billion. It is also worth noting that the Alaska State of US has a sizable $36 billion SWF ranked No. 10 in the top list. Other countries with top SWFs include Kuwait, Qatar, Libya, Algeria, and Kazakhstan.
Commodity SWFs have seen rapid growth as oil and gas prices increased from 2000 to 2008. At the end of 2007, commodity SWFs had totaled more than $2 trillion. When the price of the commodities rises, nations exporting these nature resources will see increased export surplus. However, high commodity prices can also significantly slow down or even crash the world economy. In July 2008, when the crude oil peaked at $147.27 per barrel, it created a world-wide inflation panic shock and triggered the worst financial disaster from US, Europe to the entire global. When the world economy was in recession, the SWF investment portfolios could not escape the hardest hit and experienced significant drop of their asset values. As a result, the SWFs have become a strong driving force to counter the rise of the commodity prices. Nature resource rich countries now must find a sweet balance between the commodity exporting surplus and the SWFs investment health returns.
The made-for-export model based on low cost labor human resource have created economic boom for East Asian countries that started in Japan from 1960s and gradually spreading to the four little tigers, Singapore, Hong Kong, Taiwan, South Korea, between 1970s to 1990s. The abundant low cost labors and their hard working have brought in tremendous trading surplus and wealth saving to the region. These countries have established SWFs based on the non-commodity human resource trade incomes. This trend has reached its climax with 30 years of opening and unprecedented explosive economic growth in China.
Today, China is the largest country with the most international trades. The top 10 largest non-commodity SWFs are no exceptionally dominated by funds from China. State Administration of Foreign Exchange (SAFE) Investment is the largest SWF with a total asset of $347 billion, followed by China Investment Corporation’s $332 billion. Hong Kong Monetary Authority Investment and China National Social Security Fund are No. 4 and No. 5 respectively with assets $228 and $147 billion. Singapore was among the first nations to establish the non-commodity SWFs and it has two SWFs in the top 10 list. Government of Singapore Investment Corporation is No. 3 with an asset of $248 billion and Temasek of Holdings of Singapore is No. 6 with an asset of $133 billion. Other top 10 SWFs include Australian Future Fund, No. 7, Ireland National Pensions Reserve, No. 8, Korea Investment Corporation, No. 9, and France Strategic Investment, No. 10. It is equally amazing to mention that there was not a single Chinese SWF in the top fund list as soon as five years ago. Non Commodity SWFs totaled $1.2 trillion at the end of 2007 and are expected to reach 50% of total SWFs by 2015.
The size and the strength of the SWFs are determined by the size of nation’s Foreign Exchange Reserves and the power of the country. China today has a huge Foreign Exchange Reserve of more than $2.6 trillion, which is larger than the combining total FERs from the next six largest countries. More importantly, the size of China’s FER is still growing rapidly with addition of $10-20 billions almost every month.
Although the Chinese SWFs are topping the world largest funds, however, SWFs are still a small portion of China’s huge Foreign Exchange Reserves for around 30%. Once the performance of these SWFs have demonstrated that they can be a capable and an effective investment platform to preserve and grow the reserve wealth, more shares of total FER will certainly be allocated into these SWFs. Initial investment of $8 billion from China Investment Corporation into US stock equities Blackstone and Morgan Stanley in 2007, which turned sour almost from day one, has lost more than half of its original value by today. That was alarming but certainly a necessary tuition for the new Chinese SWFs to pay in order to learn the valuable lessons from actual investment experience. The fund has quickly learned their lessons and modified their investment strategies ever since. In 2009, China Investment Corporation has produced a healthy 12.9% of total asset return, gaining an incredible $42 billion in one year!
Bank | Target Bank | Year | Stake | Invest, $M | Worth Now, $M | Profit (Loss), $M |
China Investment | Morgan Stanley | 2007 | 9.9% | 5,000 | 3,465 | (1,535) |
China Investment | Blackstone | 2007 | 9.4% | 3,000 | 457 | (2,543) |
The ultimate goal of the SWFs is to add an organically growing wealth reserve into nation’s nature or human resource exporting incomes. No country has unlimited nature resources. At the current burning rate, all known fossil fuel reserves for oil and gas on earth will be completely consumed in about 50 years. The energy resource rich countries with SWFs today must grow their wealth funds quick and big enough to prepare for the inevitable loss of future nature resource exporting income, in order to maintain their growing life style for the new generations.
This is a tough task.
For many nations, however, there are no other alternatives.
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