Study: SWFs Pursue More Direct Investing

(June 7, 2011) — In reaction to poor performance during the financial crisis, sovereign wealth funds have undertaken more direct investment as opposed to investing through third party asset managers, according to a study by Massachusetts-based Monitor Group.

In the Monitor Group report titled “Braving the New World: Sovereign Wealth Fund Investment in the Uncertain Times of 2010,” the Massachusetts-based advisory and consulting firm found that 2010 marked the beginning of a new pattern of sovereign wealth fund investment. According to Monitor, funds are making more direct investments in smaller sizes than witnessed previously. The firm stated: “During 2010, 21 of the 30 funds in the Monitor-FEEM Transaction Database executed 172 publicly reported investments, valued at a total of $52.7 billion. This represents an increase of more than 50% in deal volume from 2009 but a 23% decrease in investment value, continuing the trend of SWFs making a greater number of smaller investments. It is also the largest number of funds Monitor has witnessed making direct investments in any given year, up from 18 in 2009.”

“It is likely that we will continue to see SWFs taking a larger number of smaller stakes,” said Victoria Barbary, senior analyst at Monitor Group and co-editor of the report. “Contextualizing our data in the current economic environment suggests that commodities and other alternative assets will become an increasingly important asset class for SWFs. With SWFs keen to make good returns for their sovereign government owners, it may well be that they choose to increase their allocation to alternatives as they look to realign their portfolios with new economic results.”

The firm explained that since the global financial crisis, these investment vehicles have built more in-house capacity. The greater attention to in-house assets follows in the footsteps of Canadian funds, such as the Ontario Municipal Employees Retirement System (OMERS) and the Alberta Investment Management Corporation (AIMCo). Leo de Bever the CEO of AIMCo, for example, spoke positively of internal private equity teams to aiCIO. “I paid [US $160 million] in external fees…,” he said in a December 2009 interview. “I think we can cut that down by four times if we move some of it internally.” More recently, the Canada Pension Plan Investment Board (CPPIB) positioned itself well to profit from Microsoft’s definitive agreement to buy Skype for $8.5 billion, which was announced last month. In late 2009, the Canadian pension was part of an investor group that purchased a 65% stake in Skype from eBay for roughly $1.9 billion — a deal that became one of the top five private market transactions worldwide in 2009.

In addition to the Monitor report, a February report by State Street Global Advisors (SSgA) similarly showed that the financial crisis spurred some funds to make several significant changes, such as relying more heavily on passive investment management strategies compared to active ones and increasing their focus on the emerging-market debt as yields on traditional asset classes have fallen. According to the study, one Middle East sovereign wealth fund commented on the significant shift during the past year of assets within sovereign portfolios from active to passive strategies, saying: “In the past we used to assume that assets should be managed actively unless a certain asset class or market clearly did not offer opportunities for active managers or reward active management. Now we tend to see this investment decision the other way round. We conclude that assets should by default be managed passively unless evidence is clear that a given asset class has sufficient imperfections that active management is likely to be consistently rewarded.”