Sovereign Wealth Funds - An Exploratory Study of Their Behavior
Sovereign Wealth Funds - An Exploratory Study of Their Behavior
Volume 15 Article 4
Issue 2 Winter 2011 (Issue 1/2)
December 2011
Iraj Fooladi
Dalhousie University
Nargess Kayhani
Mount Saint Vincent University
Recommended Citation
Fatemi, Ali; Fooladi, Iraj; and Kayhani, Nargess (2011) "Sovereign Wealth Funds: An Exploratory Study of
Their Behavior," The Journal of Entrepreneurial Finance: Vol. 15: Iss. 2, pp. 64-90.
DOI: https://doi.org/10.57229/2373-1761.1012
Available at: https://digitalcommons.pepperdine.edu/jef/vol15/iss2/4
This Article is brought to you for free and open access by the Graziadio School of Business and Management at
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The Journal of Entrepreneurial Finance Volume 15, Issue 2, Winter 2011 6-9
Copyright © 2011 Academy of Entrepreneurial Finance, Inc. All rights reserved.
ISSN: 1551-9570
Ali Fatemi
DePaul University*
Iraj Fooladi
Dalhousie University*T
Nargess Kayhani
Mount Saint Vincent University*
Abstract
Sovereign wealth funds have recently moved to the front and center of discussion, both within
the investment world and the political arena. In this paper we evaluate the differences and
common features of these funds. Utilizing an ownership database, we probe the ownership,
geographic, and industry concentration of the funds deployed by these entities. We also compare
and contrast the main features of two of the largest sovereign wealth funds.
*The authors gratefully acknowledge help of Soudeh Mansourian, Christian Mellbye, Craig Mowatt, Mona
Jakobsen, and Daniel Gould in collecting information for this paper. We thank an anonymous referee of Journal of
Entrepreneurial Finance for helpful and insightful comments received. The paper also benefited from the comments
and suggestions received from the participants at the 2010 Meetings of Academy of Entrepreneurial Finance in
Chicago.
T.
Iraj Fooladi acknowledges with thanks research support from the Douglas C. Mackay Fund at Dalhousie
University.
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Sovereign wealth funds (SWFs) have been around for decades. Recently, however, and mainly
during the third millennium, they have moved to the front and center of discussion within the
investment world and the political arena. Two principal reasons may be offered for such
attention: The first is rooted in the upward movement of commodity prices, particularly the
steady increase in oil prices that began in 2002. This so-called “windfall” created an
unprecedented level of funding sources for these funds, which in turn led to a steady and robust
rate of growth in assets under management of these funds. As a result, they now play a
significant role in the global financial markets.1 The second reason is rooted in the nature of
these funds. By definition, these funds are owned by the governments, rather than the private
sectors of their respective countries. As a result, a great deal of rhetoric has been aired over their
motives, and their objectives have been much more closely scrutinized, and often with suspicion.
The suspicion that SWFs may serve the political objectives of their respective governments has
grown with the growth of these funds, and sometimes disproportionately so. These suspicions are
often reinforced by the fact that it is very difficult to obtain reliable information about most
SWFs investments.2
Leaving the investment world aside for now, the political concerns have, for the most part, been
expressed by those who fear that through such investments, “non-democratic” countries may
take control of their vital companies and jeopardize their security. In the US alone, there have
been several congressional hearings on this issue. Additionally, statements made by appointed
and elected officials often lay bare such concerns. For example, in response to the news of
possible contract for Dubai Port World to manage six US ports, Hilary Clinton (then a Senator
representing the State of New York) stated that “In a post 9/11 world, port security is too an
important issue to be treated so cavalierly.” In November 2009, Marisa Lago, President Obama’s
Choice for the Treasury Department’s Assistant Secretary for international markets and
developments stated that “… sovereign wealth funds are not just a private sector investor, but
rather arms of government and need to be subject to stricter scrutiny than other foreign investors
invested in U.S. assets.”
However, apparently all politicians do not share such concerns. Many have expressed their
positions in a manner indicating that allowing SWFs to invest in firms within their jurisdictions
is in line with the spirit of “globalization” and that of “open economies,” and that such
investments have the potential to fill the gap in the capital market created by insufficient savings
rates in these countries. Furthermore, it can be argued that the business world is, in general,
supportive of the notion of providing SWFs easy access to equity markets. For example, Pete
Peterson, co-founder and senior chairman of the Blackstone Group has indicated that he does not
believe that SWFs’ investment strategies are driven by a desire to control. Rather, he has said he
believes, they are driven by financially attractive payoffs. In an interview with Charlie Rose on
April 3, 2008, he stated that “people who are a bit paranoid about the sovereign funds, I don’t
know if they have thought through what the alternative is.” He then went on to inquire as to
whether it would be better if SWFs kept all their funds in hard currencies, which could run
around the world and cause a huge problem with the dollar, or if it would be better if they were
allowed to invest their funds for the long term.
1
Collectively, these funds had $3,938 million asset under management in September 2010 (see Appendix 1).
2
Only one fund (Norway Government Pension Fund) amongst the top ten funds has a perfect score of 10 on the
transparency issue (see appendix 1).
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Indeed, if these funds do not follow a buy-and-hold strategy, the magnitude of their trades has
the potential to increase the volatility of markets. As such, they can be considered a destabilizing
force and, therefore, deserving of close supervision and regulation. On the other hand, if their
behavior is dictated by disciplined long-term investment strategies, they can be net contributors
to the stability of markets, and could help reduce market volatility. The latter is advocated by
Pimco’s Mohammad El-Erian: “Patient nature of their large capital pools and the long-term
nature of their objective functions are the best set of investment characteristics for virtually all
global investors.” (El-Erian, 2010).
The former scenario, and its attendant implications, have often been forwarded (and more
vigorously so) when SWFs have been observed to increase their equity investment and their
influence in the corporate governance of the companies involved. In response, lawmakers in the
countries involved have called for new regulations and higher transparency. In a few cases there
have even been calls for quantitative disclosure of the investment strategies, outcomes, nature,
and the location of actual investments (Truman, 2007).3
Given these arguments, one would expect a bountiful supply of academic research on the topic.
However, with a few exceptions, the issue has not been adequately dealt with. Interestingly,
some of the writings that do exist also incorporate and refer to the dialogue in the political arena.
For example, Gilson and Milhuapt (2008), state that “...the principal concern with SWF equity
investments is that they may have a significant strategic element driven by self-interest. The fear
is that SWFs will use their influence on portfolio companies to secure technology (a concern
raised explicitly in the discussion of the Abu Dhabi fund’s investment in AMD), gain access to
natural resources, improve competitive positions for domestic companies, or in a fashion that has
national security concerns for the portfolio company’s country of incorporation.” As a potential
solution to this problem, Gilson and Milhuapt propose that the voting rights of SWF entities be
suspended, although they also recognize that the “influence can be exercised by means other than
voting; “a significant shareholder need not always cast a vote to sway management.”
Baron, Papaioannou, and Petrova (2010) analyze the investment strategy of commodity-based
SWFs and link them to the macroeconomic variables of their home countries. However, their
analysis is more normative than positive. They argue that in order for SWFs to “perform well in
most states of the world,” they should consider using the mean-variance Markowitz type model
as a good start and complement it with an appropriate method for risk management. To this end,
they emphasize investments that are negatively correlated with the SWF country’s economic
growth. For example, for oil-based SWFs and particularly the oil producing countries with
“narrow economic bases”, they recommend a bias towards US assets.
This objective-based strategic asset allocation is also in line with the work of Xiang, Wang,
Kong, and Li (2009), who propose four different strategic asset allocations based on the
characteristics of the underlying economies of the respective countries. Therefore, given that the
oil-based countries are vulnerable to global economic conditions, a heavy investment in long-
3
However, it should be noted that in most cases, these funds do not attempt to take control of the
companies they invested in. For example, when in December 2009 the Chicago-based Hyatt Hotels, disclosed
that Abu Dhabi Investment Authority (ADIA) has bought 4.8 million (10.9%) of Hyatt’s Class A common shares,
it was also announced that ADIA intends to remain minority shareholder.
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term bonds is proscribed. For net importers of oil and primary commodities, on the other hand,
investing in industries that are linked to these commodities is more appropriate. Countries with a
long-term horizon should invest in stocks and other long term assets, and those seeking long-
term real returns need to invest in TIPS products. The authors further argue that SWFs’
investment, and asset mamagement strategies, are more systematic and goal-dependent than
many other institutions. In support of their argument they report finding that with shorter-horizon
funds invest in short-term and low risk portfolios, while other SWFs adopt longer term, higher
risk, investment strategies. Funds with defined liability, in contrast, focus their strategy on asset-
liability matching and balance-sheet risk management.
Bernstein, Lerner, and Schoar (2009) investigate SWFs’ direct investments in private equity and
report several interesting patterns. Consistent with the results reported by Chhochharia and
Laeven (2009), they find evidence in support of the presence of a home bias. However, they also
report that there is a greater likelihood of home bias where politicians are involved in the
management of funds compared to where external managers are the decision makers.
Additionally, funds managed by politicians tend to invest in high P/E ratio industries, which
experience a negative valuation change one year after their investments. Independent
professional managers, on the other hand, tend to invest in low P/E ratio assets that experience a
positive value change a year later. They conclude that, overall, “SWFs seem to engage in a form
of trend chasing” investment activity. Further, “they are more likely to invest at home when
domestic equity prices are higher, and invest abroad when foreign prices are higher.”
None of these studies are, however, conclusive in providing us a picture of the behavioral and
political motives of the SWFs. This study is designed to shed light on the investment behavior of
these entities. We attempt to disentangle facts from fiction, and examine the industry, with an
in-depth analysis of two of these funds.
Arguably, the most commonly accepted definition of SWF, is the one adopted by the Sovereign
Wealth Fund Institute: ”state owned investment fund composed of financial assets such as
stocks, bonds, real estate or other financial instruments funded by foreign exchange assets”
(SWF Institute, 2011). As of early 2011, these funds had over $4.1 trillion in assets under
management, with the ten largest, SWFs holding 79% of total assets. (See Figure 1.) Virtually,
all analysts expect these funds and their influence to grow. However, the rate of their asset
growth is subject of some disagreement. Some estimates suggest that assets under their
management will reach the $12-15 trillion range by 20154. However, Baldwin (2008) maintains
that because of a lack of sufficient information these figures are exaggerated.
All sovereign wealth funds share the state ownership feature. However, when it comes to many
other characteristics, they are anything but homogenous. Among others, these include the nature
of operations, objectives, investment horizon, risk-return profile, asset allocation, and risk
tolerance. Their heterogeneity, therefore, makes it difficult to lump them all into one category.
Nonetheless, good insight can be had if one starts with gaining an understanding of the purpose
for which the fund was set up. As Rozanov (2007) points out, when the required cash outlays and
their timing is known with a good degree of certainty, as it is in the case for traditional funds
(pension funds, endowment funds, etc.), the process of optimizing funding policies, asset
allocation, and risk management follow in a natural progression; all subject to the constraints
4
Morgan Stanley Global Research (2007).
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imposed by the nature of their funds or their governing bodies. Therefore the sequence of events
is as follows:
Define Accumulate
Design and
Liabilities and manage
set up funds
assets
However, when it comes to sovereign wealth funds the process is often not the same. For
example, commodity exporting economies may experience unexpected windfall revenues from a
positive terms-of-trade shock. This often results in a redesigning of the structure of assets to
adjust to the new source of funding. In such cases, the previously identified sequence of events
reverses order, with a subsequent ‘normalization’ of the process at the end.
Following this process, and starting with the nature of liabilities, SWFs can be divided into the
five categories of funds: (1) Stabilization/Buffer, (2) Endowment, (3) Pension Reserve, (4)
Development, and (5) Government Holdings Management. In a slightly different fashion,
Mehrpouya, Huang, & Barnett (2009) divide SWFs into the following six categories:
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However, neither systems is capable of correctly classifying all funds. For example the Norway
Pension Fund would have elements of both “pension reserves” and “intergenerational wealth
transfer”. Regardless of these differences, SWFs have important common characteristics:
1. Typically, they are established to invest government funds.
2. With the exception of stabilization funds they have long-term investment horizon.
3. They all have increased their equity investment, which has also increased their influence
in corporate governance of the companies involved.
To deal with concerns over the political motives of SWFs, the International Working Group
of Sovereign Wealth Funds has created the Generally Accepted Principles and Practices –
Santiago Principles (IWG, 2008). These principles can be regarded as a framework,
providing SWFs guidance for appropriate governance and accountability agreements, and for
the implementation of appropriate investment practices. These principles, in essence, were
developed to foster trust and confidence that SWFs act and behave like other investment
funds. That is, they are driven by the motive to maximize the return on invested capital, and
that their investments are devoid of political agenda.
Further, in an apparent attempt to nudge its member funds toward higher degrees of
transparency, the SWF Institute has been utilizing the Principles of the Linaburg-Maduell
Transparency Index to measure and report member funds’ efforts on that front (SWF
Institute, 2010). This index is based on ten indicators of transparency, each assuming a
binary value. Measured in this manner, the SWF Institute classifies a fund as “transparent” if
it achieves a minimum rating of eight points. Table 1 shows the ten rating principles.
Investment Strategies
Asset Allocation:
SWFs’ asset allocation models vary from the very traditional to the more advanced cathegory
(IMF, 2008). A few invest only in highly rated government securities, but most invest in
several different asset classes. The majority of SWFs invests in a mix of equity and fixed
income assets, while many also invest in private equity, real estate and alternative
investments. According to a 2008 IMF survey, all SWFs make investments in fixed income
assets, 60 % in public equities, 40 % in private equity and real estate, and only about 20 % in
commodities (see Figure 2).
Results of the same IMF survey indicate that a typical fund now invests 40–70% of its funds
in equity, 4–10% in private equity funds, 13–40% in fixed income, 2–5% in infrastructure, 2–
5%in commodities, and 8–10% in real estate. Therefore, it can be concluded that over time:
(1) SWFs have moved away from the US Government long-term bonds, (2) have increased
their allocation to equity investments, (3) have increased diversification by moving into
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alternative investments, (4) have migrated from a purely passive management style to a more
active and dynamic one.
Sector Allocation:
SWFs invest in a broad range of industries. However, financial services and real estate are
usually overweighed. Their investments in the finance sector are, however, not limited to
banks. They also invest in alternative assets such as hedge funds, asset management
companies, private equity investment firms and the operators of stock exchanges (Xiang,
Wang, Kong, & Li, 2009). Further, all indicators are that, following the 2008 global financial
crisis, many of these funds have increased their exposure to the financial services sector. In
some cases, they have played a role as the rescuer of last resort. SWFs have also increased
their investments in strategic sectors such as energy companies, the operators of ports, and
financial exchanges in America and Europe, stirring a debate about their political objectives.
Motivated partly to avoid being forced to discuss their objectives, some of these funds have
self-imposed limitations on their sector allocation. The Chinese Investment Corporation
(CIC), for example, has indicated it does not plan to invest in sensitive industries such as
airlines, telecom, tobacco or weapons by any manufacturers.
Geographic Allocation:
As a general rule, sovereign wealth funds have a heavy home and regional bias in their
investments. Chhaochharia and Laeven (2009) find that SWFs “tend to invest in countries
with common cultural traits.” They argue that this bias is driven by a pre-disposition by all
investors to invest in the “familiar”. However, they hypothesize that the cultural bias of
SWFs is more pronounced than that of other funds. Bernstein, Lerner, and Schoar, (2009)
report findings in support of the presence of the home bias. They further report that there is a
greater likelihood of home bias when politicians manage these funds.
Two other explanations for this observed home bias have also been offered. One is based on
the diversification principle and the other on information arguments. The former posits that a
nation with a narrow base of economic activities (e.g., an oil-based economy) can, and
should, diversify its economic base by investing in unrelated businesses that broaden its local
economic base. Abu Dhabi’s investments in the financial services industry are often offered
as a good example of such an approach (e.g. see Balding 2008).
The latter reason is based on the difficulty and the cost of investing beyond the country’s (or
region’s) borders. Advances in technology have significantly reduced the barriers to the free
flow of capital between nations. Nonetheless, the “asymmetry of information between local
and non-local investors”, the differential information acquisition costs, and the incremental
political and foreign currency conversion costs, create a net advantage for domestic
investments relative to the international ones. In this spirit Coval and Moskowitz (1999)
attribute the home (and region) bias more to the geographic distance than to the political
boundary. Disadvantaged in terms of access to information, and the ability to recruit talented
managers and employees, SWFs shy away from the international setting in favor of home
investments. Both explanations are useful in describing the reasons for a greater likelihood of
home bias when politician manage these funds.
Whatever the motives, the home and regional biases are ever present. Contemporary
examples include the August 2010 attempt by the Malaysian government to call on the
member countries of the Islamic Development Bank to establish “the world’s first supra-
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sovereign wealth fund” for the purpose of investing in Muslim economies, as well as the
French President Nicolas Sarkozy’s similar call (following the 2008 global financial crisis) to
the European countries to set up a European Sovereign Wealth Fund to invest in capital-
hungry European firms.
Ownership:
Although most SWFs do not hold majority stake in individual companies, they often do
exercise their voting power. The Norwegian Pension Fund, for example, uses its voting rights
in more than 90% of the occasions that call for stockholders’ vote. In terms of concentration
of holdings, 70% of the SWFs included in the IMF survey confirm that they have large
holdings of particular firms, often along with their other portfolio holdings. Only two of the
SWFs state that they are pure portfolio investors. These funds often use their voting power to
have some control over the governance of the companies they own.
Management:
Due to lack of in-house capacity to invest in certain asset classes (Mehrpouya, Huang, &
Barnett, 2009), most SWFs do not have in house managers and use external managers for
their investments. Thus, the SWFs rely on external fund managers to implement their
strategic asset allocation in areas where their capacity is limited. Another reason to use
external managers is to avoid the potential discussion of the investment and how the SWFs
execute their voting rights (Xiang, Wang, Kong, & Li, 2009). As funds grow, their tendency
for having in-house managers grows as well. For example, the Norwegian Fund now
manages about 83% of its assets.
Analysis
In this section we analyze the investment behavior of SWFs through an evaluation of their
investment activities, as reported by the companies in which they have made investments.
To this end, we utilize the OSIRIS ownership database. This database identifies the investors
in all publicly traded firms, within a jurisdiction, who hold more than a certain percentage of
shares in those firms5. Relying on the International Security Identification Number (ISIN), to
determine the home country for each company, we evaluate the ownership data of public
companies in 46 countries searching for sovereign wealth funds as owners6. Altogether, the
search for owners of public companies in these 46 countries resulted in the identification of
15 sovereign funds with ownership in publicly traded companies surpassing the minimum
reporting requirements.
5
The minimum percentage ownership beyond which firms have to identify the owner is usually low, but varies for
different countries. The lowest minimum is 2% in Italy and the highest minimum is 25% in Russia. See Schouten
and Siems (2010) for a listing of the thresholds in various countries.
6
The 46 countries included consist of Argentina, Australia, Austria, Belgium, Brazil, Canada, Chile, China, Colombia,
Czech Republic, Denmark, Egypt, Finland, France, Germany, Greece, Hong Kong, Hungary, India, Indonesia, Ireland,
Israel, Italy, Japan, Republic of Korea, Luxembourg, Malaysia, Mexico, Netherlands, New Zealand, Norway, Peru,
Philippines, Poland, Portugal, Russian Federation, Singapore, South Africa, Spain, Sweden, Switzerland, Taiwan,
Thailand, Turkey, United Kingdom, and United States.
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It should be noted that the, so obtained, ownership reports add up to just a portion of the total
assets under control of each fund, and that in some cases this portion is very small (see Table
2). The missing portion is comprised of three components. First, investments in privately
held corporations that are not subject to ownership disclosure requirements. Second,
investments in publicly traded firms that are below the threshold triggering disclosure
reports. Finally, the funds’ domestic and regional investments in countries not covered in our
database, or those that do impose ownership disclosure requirements.
Given the more stringent disclosure requirements that prevail among the G8, it may be
instructive to further evaluate the industry and geographic concentration of SWFs that
operate within the jurisdictions of theses countries. Calculations of Herfindahl Concentration
Index for industry and geographic concentrations (among the G8 countries) are reported in
Tables 5 and 6, respectively. As can be seen in Table 5, only 11 of the 15 funds were found
in the ownership database of the G8 countries. Here, again, we find high concentrations in
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certain industries with Alberta Heritage Fund investing exclusively in agricultural products
and the Abu Dhabi Investment Fund investing exclusively in specialized finance. As we did
in explaining the results for the entire sample in Table 3, we hypothesize that the high
concentration indexes are partly attributable to the lack of the availability of all investment
data for these funds. (Availability of data on investments in privately held corporations that
are not subject to ownership disclosure requirements; investments in publicly traded firms
that are below the threshold triggering disclosure reports; and the funds’ domestic and
regional investments in countries not covered in our database, or those that do impose
ownership disclosure requirements would have resulted in lower estimates of these indexes.)
We further note that for the four funds with data availability for 2005 and 2007 (Abu Dhabi
Investment Authority, Government of Singapore, Kuwait Investment Authority, and
Temasek Holdings), concentration ratios show steadily decreasing patterns over time. Table
6, shows the geographic distribution of ownership of these funds among G8 countries. These
results indicate the presence of high geographic concentrations of a few funds: Investment
Corporation of Dubai has an exclusive concentration of investments in the US, while Alberta
Heritage Fund has its concentrated in Canada. Kuwait Investment Authority, and Temasek
Holdings have more than 80% concentration in the U.K., and France’s Strategic Investment
Fund more than 80% inside that country. Here, too, it should be noted that while
concentration indexes are driven by the regional and domestic preferences of these funds, the
fact that we only work with a small fraction of these funds’ investments tends to create an
upward bias in these calculated indexes. Finally, note that for the three funds with data
availability for 2005 and 2007 (Government of Singapore, Kuwait Investment Authority, and
Temasek Holdings), geographic concentration ratios show a pattern of steady decreases over
time.
Temasek Holdings: The fund dates back to 1974 when it was established in order to
manage Singapore government’s investments in local industry. The fund’s charge was later
expanded to include holdings in the global markets as well. To finance its new investments,
the fund relies upon dividends received from existing investments, proceeds from
divestments, and commercial loans (Temasek Holdings, 2009). The fund operates as an
independent investment holding company, with the Ministry of Finance as the sole
shareholder. Although it operates as an arm of the Government of Singapore, it has its own
independent board of directors.
Investment Strategy: The fund invests primarily in equity market and has a strong regional
and country bias. As of March 31, 2010, the fund had 78 % of its investments in Asia (up
from 74% in 2009) with a main focus on Singapore (32% in 2010, up from 31% in 2009).
The remaining 22 % is invested in OECD economies (20%) and other parts of the world
(2%) such as Latin America, Eastern Europe, the Middle East and Africa (see Table 7, Panel
A). Temasek Holdings defines its investment strategy as centered around four themes
Transforming Economies, Growing Middle Class, Deepening Comparative Advantages, and
Emerging Champions (Temasek Holding, 2010). This gives rise to a strategy of investing in
companies and industries that are believed to be able to sustain economic growth because
their growths are positively correlated with one or more of these four themes. The fund
believes that this strategy will result in obtaining higher long-term risk-adjusted returns.
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Asset Allocation: A broad range of industries make up Temasek’s portfolio with the financial
services sector claiming the lion’s share. As of March 31, 2010, 37% of its $186 billion
investment was allocated to this sector (up from 33% in 2009). The other major components
are telecommunication, media & technology (24%), transportation & industrials (18%), life
sciences, consumer products & real estate (11%), energy & resources (6%), and other (4%).
Its heavy emphasis on the financial services firms is rooted in Temasek’s management’s
belief that the sector driven by continued strong demand for the financial services products
by the Asian middle class population (see Table 7, Panel B) has the best potential for
continued high growth.
Ownership: Temasek appears to be fairly active in the corporate governance of the firms
making up its portfolio, and possibly more so than other SWFs. Its holdings consist of
blocks of 20% or more in the equity of 43% of its listed investments (Table 7, Panel C). The
fund appoints individuals to the boards of directors of these firms and utilizes its voting
power. Therefore, in many ways Temasek seems different than the average SWF. It is an
active investor that attempts to make strategic purchases and become involved in the
corporate governance of the companies it acquires. At the same time Temasek shares some
of the general features of all SWFs; it is a long-term investor, does not have any short-term
liabilities, holds many different assets, its largest holdings are in the financial services
sector.
The Government Pension Fund Global: This is the largest investment mandate of the
Norges Bank Investment Management (NBIM) that manages the fund on behalf of the
Norwegian Government. It was set up in 1990 to undertake long-term management of the
country’s petroleum revenue (NBIM, 2010). It is the second largest Sovereign Wealth Fund
in the world, which holds more than 12% of all assets under management of SWFs. (Prior
to 2006, the fund’s official name was the “Petroleum Fund”.) Although the fund was
established as a fiscal policy tool for the government to deal with the fluctuation in the oil
prices, it has been designed in a manner that makes it possible for the government to draw
from it should it be determined that such withdrawals are required in order to deal with the
needs of the country’s aging population. Therefore, this fund can be categorized as an
“intergenerational wealth transfer” fund.
Investment Strategy: The investment objective of the fund is to maximize return with
moderate risk. The risk level is set by the Ministry of Finance (Caner and Grennes, 2008).
Owing to the long-term nature of its liabilities, it has a much longer investment horizon
when compared to the average household or institutional investor. The fund has a high risk-
bearing capacity because there is no concrete commitment linked to the asset pool and no
short-term liquidity requirements (Norwegian Ministry of Finance, 2009). Further, the fund
strives to hold a diversified portfolio consisting of investments in firms that follow specific
ethical guidelines in the course of conducting their business. As a result, over the course of
the last few years, a number of large multinational firms, including Boeing, Rio Tinto and
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Wal-Mart, have been removed from the portfolio because of various violations of the fund’s
ethical guidelines. 7
Asset Allocation: As shown in Table 8, the current target asset allocation model of the fund
calls for weights of 60% equity, 35% fixed income, and 5% real estate8. As of May 2010, its
fixed income portfolio consisted of 60% investment in Europe, 35% in America and 5% in
Asia and Oceania. The equity portfolio was made up of 50% investment in Europe, 35% in
Americas and 15% in Asia and Oceania (Norwegian Ministry of Finance May 2010) 9.
Unlike Temasek, which routinely holds a minimum 20% stake in firms that it invests in, the
Government Pension Fund used to restrict its investments in individual companies to less
than 5% of the equity outstanding. However, this limit was raised to 10% in 2008
(Norwegian Ministry of Finance, 2009). The Fund’s benchmark portfolio consists of almost
7,700 companies across 46 countries. Its benchmark index for bonds includes more than
10,000 individual securities across some 1,600 issuers in the currencies of 21 different
countries. As a consequence of the low percentage stake held in each company, and the
well-diversified portfolio that it holds (made up of a large number of different assets) its
investment style can be best characterized as passive (or indexing). Nevertheless, parts of
the fund’s assets are also managed actively through investments in securities other than the
ones in their respective benchmark portfolios10.
Sector allocation: The fund is diversified across many sectors. However, like many other
SWFs, the financial sector is overweighed by 23.1%. This is followed by industrials (12.6%),
consumer goods (11.7%) and oil and gas (9.8%) sectors. Table 8 shows these details.
7
For a comprehensive example of companies that are excluded see http://www.swfinstitute.org/swfs/norway-
government-pension-fund-global/
8
Prior to 2007 the equity weight was limited to 40%. Raising the upper limit for equity investments from 40% to
60% and allocating up to 5 % of the fund’s capital to real estate (first real estate investments having been made in
2010), were the two most important changes in the last few years.
9
Caner & Grennes (2008) argue that the fund has become more exposed to risk over time, and refer to the losses
caused by holdings of Lehman Brothers assets in 2008 as an evidence for this increased exposure. Of course, part
of the increase in risk is due to the lifting of the equity weight in the benchmark from 40% to 60%.
10
However, the Ministry of Finance has established an upper limit of 1.5% tracking error.
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Temasek’s investments, on the other hand, are almost entirely in equities, and a large portion
of these investments is in privately held firms.
The difference in these two funds’ desire to exercise their ownership rights may be best
explained by the stakes they maintain in individual firms. With more than 43% of its
investments, Temasek holds an equity stake of more than 20% of the shares. The
Norwegian Fund, however, limits itself to less than 10%, and in most cases its investments
do not approach that limit. Temasek, therefore, positions itself to control the companies by
vigorously exercising its voting rights (see, for example, Mehrpouya, Huang, & Barnett,
2009). Although the Norwegian fund exercises its voting rights to safeguard its interest and
to encourage ethical, social and environmental standards in corporate governance, its small
minority stake limits its ability to do so effectively.
Both funds have their largest investments in the financial services sector. However, it
appears that the Norwegian Fund keeps a more balanced holding between sectors than does
Temasek. Further, both funds have regional biases, and hold the majority of their
investments in their respective local regions. The Norwegian Fund does not invest in
Norway but keeps over 50% of its investments in Europe. Temasek, on the other hand,
invests 78% of its capital in Asian assets. As such, it is reasonable to conclude that Temasek
has a higher country (and regional risk) exposure than does the Norwegian Fund. Finally,
both of these funds have a long-term investment horizon.
In this study we analyze sovereign wealth funds through a close examination of their
characteristics, practices, strategies and their other features. To gain better insight into their
strategy, we also examine their holdings through an evaluation of the information extracted
from ownership disclosure requirements imposed on firms headquartered in 46 different
countries. Further, we perform an in-depth analysis of two of these funds: Temasek and the
Government Pension Fund of Norway, both enjoying the highest transparency index of 10.
Depending on the nature of their liabilities, SWFs can be divided into five distinct groups.
However, they all share a few important common characteristics: Their investment horizon
is much closer to the long-term end of the spectrum, they have a higher than average degree
of risk tolerance, and in their investment decisions are more geared toward stability as
opposed to turnover. They all have reduced their portion of investments allocated to fixed
income in favor of larger allocations to equities. Some have also added other asset classes
such as real estate, private equity, and other alternative investments to their allocation
models. Finally, they exhibit a tendency toward a more active investment style and more
active involvement in corporate governance of firm they invest in.
Our analysis of these funds’ holdings indicates the presence of heavy industry concentration
for some of these funds. Although, the Herfindahl Index that this conclusion is based on may
be upwardly biased, these funds’ tendency to heavily invest in the financial sector is well
supported even through a casual observation. Interestingly, where data is available, we
detect a clear pattern of reduction in these degrees of concentration. Further, our calculated
Herfindahl index indicates the presence of heavy geographic concentration for some of these
funds, which confirms the presence of a domestic and regional preference for some of these
funds. Here, too, where date is available, we detect a clear pattern of declining concentration
over time. When we limit our analysis to the investment holdings of SWFs in G8 countries,
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we observe heavy, but declining, geographic concentration in the US and UK, as well as a
heavy concentration in the financial services sectors.
Sovereign wealth funds are not of the plain vanilla type that can be easily understood. Their
opacity adds further complication to the process of a complete analysis. Therefore, it is not
surprising that their investment motives are often subject of political controversy. If there are
any, our analysis fails to uncover the presence of disruptive effects, which can be attributed
to their investment behavior. To the contrary, it can be argued that the relatively long
investment horizon of these funds, acts as a stabilizing force, and specially so at times of
high market volatility. Nonetheless, these funds should take greater steps toward a high
degree of transparency.
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REFERENCES
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Irvine.
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Caner, M., & Grennes, T., 2008, "Performance and Transparency of the Norwegian Sovereign
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pp. 44-47.
Gjedrem, S., 2009, "Introductory statement by Mr. Svein Gjedrem, Governor of Norges Bank
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IMF, 2008, "Sovereign Wealth Funds - A Work Agenda", International Monetary Fund.
IWG, 2008, "Generally Accepted Principles and Practices - Santiago Principles", International
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Maslakovic, M., 2008, "Sovereign Wealth Funds 2008", International Financial Services
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Mehrpouya, A., Huang, C., & Barnett, T., 2009, "An Analysis of Proxy Voting and Engagement
Policies and Practices of the Sovereign Wealth Funds," New York: IRRC Institute.
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Table 2: Total Assets of Sovereign Wealth Funds and the Percentage of Their Assets
Retrieved From OSIRIS.
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Table 5: Herfindahl Concentration Index for Industry Distribution of SWFs within the G8
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Table 6: Herfindahl Concentration Index for Geographic Distribution of SWFs within the
G8
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Appendix 1:
Sovereign Wealth Fund Rankings by Assets Under Management
Assets Linaburg-Maduel
Country Fund Name Inception Origin
$Billion Transparency Index
UAE – Abu Dhabi Abu Dhabi Investment Authority $627 1976 Oil 3
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Oman State General Reserve Fund $8.2 1980 Oil & Gas 1
Diamonds &
Botswana Pula Fund $6.9 1994 6
Minerals
East Timor Timor-Leste Petroleum Fund $6.3 2005 Oil & Gas 6
UAE – Abu Dhabi Abu Dhabi Investment Council n/a 2007 Oil n/a
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**The above data has been extracted on specific dates. Market size reflects official disclosure, fund
creation, investment activity, capital injections, and other variables.
November
2010
December 2009
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Appendix 3:
Countries from Which the Ownership Report of Sovereign Wealth Funds Are Obtained
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