Neither Independent, Nor Commercial

Ashby Monk

I read quite a thought provoking article by Veljko Fotak and William Megginson on Project Syndicate this morning. Now, I have to admit, I was in a severe state of sleep deprivation when I read it, as I very recently became a new dad. But I just reread it, and I’m still intrigued.

The authors’ premise is simple: they claim SWFs are not as independent or as commercial as they would have you believe. In short, Fotak and Megginson seem to be making the case against certain aspects of SWFs’ own Santiago Principles:

“SWFs like to portray themselves as politically independent, commercially motivated investment vehicles. But the last couple of years have proved that, in a crisis, they are not immune from political pressures to re-focus their portfolio allocations towards domestic investments. This tendency at times of economic downturn suggests that SWFs are not the long-term, stable shareholders of foreign firms that they (and some commentators) claim themselves to be.”

I buy that. As I’ve argued time and time again, sponsoring governments do view their SWFs as ‘insurers-of-last-resort.’ But Fotak and Megginson seem to take that argument a step further, suggesting that this role extends to the SWFs’ investment decision-making and not just the governments’ access to the capital in the SWF. It’s a compelling argument given their empirical evidence.

What’s perhaps more interesting is the insight that this politically oriented investment may be driving the poor returns shared by some SWFs during the crisis.

“Incidentally, it is plausible that the cyclical behavior of the SWFs is responsible for the underperformance of their holdings. SWFs tend to invest in foreign markets more when times are good and security prices are more likely to be inflated, and to divest during market downturns, when divestment offer implies lower-than-fundamental-value security prices. Accordingly, the underperformance of SWF equity portfolios might be a consequence of unfortunate, but constrained, timing, rather than a result of poor stock picking.”

In other words, the SWFs have managed to create the opposite effect from traditional portfolio re-balancing. Still, one SWF has outperformed the market in 2008 and 2009: the CIC. That’s an important counter-factual…

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This website is a project of Professor Gordon L. Clark and Dr. Ashby Monk of the School of Geography and the Environment at the University of Oxford. Their research on sovereign wealth funds is funded by the Leverhulme Trust and The Rotman International Centre for Pension Management.

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