Could sovereign wealth funds ignite a fresh round of shareholder activism?

3rd September 2010

Sovereign wealth funds have attracted sniffiness and awe in equal measure since they strode onto the world stage in the wake of the oil boom.

On the one hand, at a time of shrinking availability of capital, these investment behemoths have been a welcome source of funding. On the other, there is a certain twitchiness about ceding control of trophy assets to these unregulated giants, whose intentions remain far from clear.

Are sovereign wealth funds a welcome force in global investment markets?

Their influence is unquestionable. They have been around for as long as governments have sought to set money aside for a rainy day, but many were given a huge boost by the pre-crunch commodities boom.

Definitive data on these often secretive funds is hard to track down, but State Street is considered the most credible source of statistics on the sector.

It shows that the largest SWF is the Abu Dhabi Investment Authority at $625 billion. To put that in context, it would buy the top 10 companies in the FTSE 100 outright (HSBC, BP, Royal Dutch Shell, Vodafone, GSK, Rio Tinto, Astra Zeneca, BHP Billiton, British American Tobacco and Barclays). 

This in itself is enough to make investment markets a little nervous – there remains the question over the extent to which SWFs will exert influence by stealth. Of course, much of the early commentary has focused on the funds' appetite for trophy assets. This has got some in the blogosphere very exercised about foreign influence in UK assets. . It must be said that the headline writer who called Liverpool the jewel of the English League obviously hasn't watched any of their matches recently.

Parochialism aside, in many cases, their influence during the credit crunch was extremely helpful, providing capital to failing organisations such as Barclays when the bank had few other options.

In the Schroders' Secular Market Forum Dr Brad Setser, who works at the Council on Foreign Relations in the US, and Dr Stephen Jen, Global Head of Currency Research at Morgan Stanley, concluded: "Financial markets would be lower today were it not for the willingness of the SWFs to provide capital to several major investment banks."

They added: "Going forward, SWFs will play an increasing role in financial markets as they increase in size. This is a positive for markets, but will come at a price as the concentration amongst a small number of players means that the SWFs can collectively punch above their weight when compared to other institutional investors."

The credit crunch dented the appetite for sovereign wealth funds for investing in Western assets, as this Reuters blog highlights.

Many sovereign wealth funds came under domestic pressure to address their heavy losses on Western assets after the credit crunch. In some, this led to a new resolve to increase activism to generate better returns rather than an urge to disinvest.

Either way, investment markets are unlikely to find sovereign wealth funds are the benign investors of recent history.

Clearly this influence could work for good or for bad. Norges Bank Investment Management (NBIM), the fund set up to manage Norway's oil wealth, has set an example.

NBIM believes that sustainability issues represent some of the largest long-term threats to the companies in which it invests. As such, it has an extensive programme of engagement with its underlying companies, examining their strategy on water, child labour and other sustainability issues.

However, there is no guarantee that other sovereign wealth funds will follow NBIM's admirable lead.

But in general sovereign wealth funds have used their financial influence to protect internal interests rather than exert dominance globally.

Shareholder activism is increasing everywhere and sovereign wealth funds are no different. These funds are likely to insist that the companies in which they invest are managed with more care in future.

Far from being a worrying influence in global stock markets, their financial clout could ignite shareholder activism.

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