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DBR | 1호 (2008년 1월)
A version of this article was originally published by Knowledge at Wharton
Sovereign wealth funds and their cousins _ national-pension and currency-stabilization funds _ have lately burgeoned. Many of the government-run funds have their roots in their home nations' natural resource wealth, especially oil exports. With crude prices increasing fourfold over the last five years, countries ranging from Russia to Venezuela are now collecting more revenue than they can prudently invest at home. The International Monetary Fund estimates that sovereign wealth funds control about $3 trillion and that figure could grow to $12 trillion by 2012. The biggest of them, the Abu Dhabi Investment Authority and Council, is believed to sit on about $875 billion.
Despite these eye-popping sums, the management sophistication of many of these outfits has hardly reached its adolescence, says Olivia S. Mitchell, a Wharton professor of insurance and risk management and director of the Boettner Center for Pensions and Retirement Research.
In a soon-to be-published paper titled, "Managing Public Investment Funds: Best Practices and New Questions," Mitchell and two co-authors _ John Piggott and Cagri Kumru at Australia's University of New South Wales _ say that many funds don't adhere to basic norms of modern money management. Most don't even appear to make an effort to match their investment strategies with their future financial obligations.
That's troubling because, in theory, government-run funds should conduct themselves just as private ones do when it comes to matching their investments with their future payouts, Mitchell says. "Your appetite for risk should depend on the cash flow pattern of your expected liabilities. Until you undertake a good analysis of the liability stream you need to cover, it's impossible to know what you should be invested in. In the majority of cases, these funds don't report enough information to track their future liabilities, so we cannot tell whether their investments are appropriately matched to future promises."
The three scholars devised a system for ranking the management of sovereign wealth funds by tallying indicators of their governance, public accountability and investment practices. They rated Norway's Government Pension Fund and New Zealand's Superannuation Fund as the best managed, while Abu Dhabi's management counts among the worst in terms of transparency and accountability. Norway and Abu Dhabi are investing a portion of their swelling oil wealth, while New Zealand is socking away tax receipts to provide retirement income for its citizens.
What sets Norway and New Zealand apart from their peers? Both countries have created operations that function almost like modern U.S. mutual funds.
"The well-managed funds are very explicit about where their money comes from and what their objectives are," Mitchell says. "They're reporting the nature of their investments and the funds' geographic diversification. They issue quarterly reports, and they protect the funds' managers from political interference. New Zealand's plan has even put in place guidelines for corporate responsibility, outlining the way it will intervene, or not, in companies in which it invests, and what types of assets it will or won't seek to hold. It publishes a formal 'responsible investment policy' manual, which takes into account the environmental impacts and employment-rights practices of companies in which it invests."
Just as important, both countries try to insulate their funds from political meddling, which is perhaps the biggest peril for a government-run investor.
They achieve this partly by investing much of their money abroad, thus reducing pressure from elected officials to back friends' and supporters' companies or hometown projects. Both of these funds were created by democratic governments, giving them a legal obligation to operate openly. And, by doing so, they also generate support for their financial mission. In theory, if citizens understand and trust a fund's goals, they should be less likely to clamor for tax cuts or increased benefits.
Several of the sovereign wealth funds at the bottom of the authors' ranking don't operate in democracies and thus may face less pressure to operate transparently than their counterparts in Norway and New Zealand. Abu Dhabi, for example, is part of the United Arab Emirates and is governed by an emir, or prince, who chairs the board of the country's fund.
Mitchell says she understands the desire of money managers to operate clandestinely. "It is often the case that investors like to keep their strategies close to the vest, so as not to be pre-empted," she notes. That's how many hedge funds justify their secrecy. But the facts may belie those instincts. Prior research by Mitchell found that "enhanced pension reporting, including making annual reports on financial, actuarial, statistical and investment information to stakeholders, can improve returns by 2.1 percentage points annually," she and her co-authors write.
Politics, in many forms, bedevils sovereign-wealth funds. Simply put, they are controversial and, to some people, even scary. Thus, some governments restrict investments by foreign funds or are considering doing so. "The European Commission is drafting a plan to prohibit non-European Union members from investing in the European energy business," the three scholars write. "German Chancellor Angela Merkel has mentioned designing a system similar to that implemented in the U.S., where a governmental Committee on Foreign Investment must review and approve foreign-based investments that might be deemed a threat to national security. Such financial protectionism might be avoided if these publicly managed investment pools were made more transparent, clearer in their objectives and more accountable to (their) many stakeholders."
Xenophobia and grudges may exacerbate the worries. Several of the fastest-growing funds are controlled either by countries such as China, with ideologies that often conflict with those of Western countries, or others such as Iran and Venezuela, with leaders who rail against the United States and its worldwide influence.
Despite these concerns, little evidence has surfaced that governments have tried to use their funds for political manipulation or chicanery. If anything, some of the recent moves by sovereign wealth funds could be deemed more stumbling than sinister. One of China's funds, for example, last year bought $3 billion worth of shares in Blackstone Group, an American private equity company. The value of Blackstone's shares has since fallen, sliding with the rest of the U.S. financial sector. Today, the stake is worth about $2 billion.
Likewise, in November, Abu Dhabi's fund shoveled about $7.5 billion into Citigroup. Like many U.S. banks, Citigroup has been sapped by its bad bets on mortgage securities, and its shares have dropped nearly 40 percent so far this year.

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