Oil and Trade Gains Make Major Investors Of Developing Nations

By David Cho and Thomas Heath
Washington Post Staff Writers
Tuesday, October 30, 2007

The government of Libya, flush with oil, has amassed $40 billion and is ready to put it in play on Wall Street. China recently acquired a huge stake in one of the biggest names in U.S. finance. Tiny Qatar is adding $1 billion a week to its investment coffers and is trying to buy the leading grocer in Britain.

Developing nations, especially in Asia and the Middle East, are aggressively stockpiling some of the largest concentrations of investment money in history. The cash hoards, called sovereign wealth funds, are controlled not by state-run companies or private investors but by governments.

These investment pools are equal to or even bigger than the largest pension and private-equity funds in the United States, and many are highly secretive about their activities. The Abu Dhabi Investment Authority has an estimated $875 billion to invest, while China's first stab at a sovereign wealth fund, which started last month, has $200 billion. The largest private-equity firm has about $90 billion under management.

Sovereign wealth funds have been around for decades. But enriched by the surge in the price of oil, which settled at a record $93.53 yesterday, and the trade gap between the United States and Asia, these funds have grown to gigantic proportions. This has alarmed U.S. politicians and regulators, some of whom held a series of meetings on the topic here this month. Some on Wall Street say the growing prominence of these funds portends a fundamental shift in financing power away from Western nations.

"It's evidence of the emergence of the developing world as an economic superpower and . . . of a shift of economic power away from the United States," said Alex Patelis, head of international economics at Merrill Lynch.

In the past, these funds had largely been content to hold safe, low-yielding investments such as U.S. Treasurys. Now, with the expectation that Treasury yields could be low for years and the recent weakening in the U.S. dollar, they are seeking higher returns and taking bigger risks.

Some are buying stakes in key industries in the United States and Europe, including banks, ports, stock exchanges and energy companies. Others are looking beyond opportunities in the West, shoring up Asian banks and building Africa's infrastructure.

The new, more aggressive investing strategy is reigniting nationalistic sentiments around the world. Germany has been alarmed at Russia's move to acquire stakes in pipeline and utility companies. New Zealand opposed an effort by Dubai investors to take over a major airport.

In the United States, lawmakers reacted strongly against a state-run Chinese firm that tried to take over a U.S. oil company in 2005 and a Dubai firm that wanted to buy U.S. seaports last year. But the response to sovereign wealth funds has been more mixed.

Few eyebrows on Capitol Hill were raised when Dubai paid $825 million for U.S. clothing retailer Barneys in June and followed it with a 19.9 percent stake in the Nasdaq Stock Market last month. But some officials are concerned about what other kinds of businesses might be bought by governments that are secretive about their investment activities. It would be difficult to know whether these countries are just aiming to make money or have ulterior motives.

The emergence of sovereign funds "challenges us to ask whether these many benefits of markets and private ownership will be threatened if government ownership in the economy . . . becomes more significant," said Securities and Exchange Commission Chairman Christopher Cox at a speech at Harvard University last week. "When the regulator and the regulated are one and the same, deference to [sovereign wealth funds] can all too easily trump vigorous and neutral enforcement."

But Treasury officials are concerned that an emotional reaction to foreign investment may persuade deep-pocketed overseas financiers to spend their money outside the United States. "It's no secret that it is in the best interest of the United States to remain open to investment," said Clay Lowery, assistant secretary for international affairs.

The managers of these funds appear receptive to making the funds more transparent and following a code of best investment practices, which is being developed by the International Monetary Fund, Lowery said. The topic was a focus of a first-of-its-kind dinner at the Treasury Department this month, at which Secretary Henry M. Paulson Jr. led a wide-ranging discussion with top sovereign-wealth-fund managers from around the world.

"These funds, like many other investors, are shifting from low-risk assets to higher-risk assets to increase their expected returns," said Martin Skancke, director general of the asset management department of Norway's Finance Ministry, which runs a $350 billion fund and was represented at the dinner. The problem, he added, is that "there's a lack of transparency in many funds."

About two dozen countries have established sovereign wealth funds, including Iran, the United Arab Emirates, Singapore, Kuwait, Australia and Russia. While precise data about each of the funds can be difficult to obtain, most Wall Street analysts agree that the value of the funds has reached about $2 trillion and is likely to grow at least fivefold by 2012.

"We want to be encouraging people to invest as much of this money in the U.S. as we can," said Douglas Rediker, a former investment banker who works at the New America Foundation in the District. "We are driving our way around the country every day and sending them our U.S. dollars at $3 or $4 a gallon. . . . You really want those dollars recycled back into your economy, because if they aren't, it means they are going somewhere else and the dollar is less attractive and will continue to weaken."

Many of the oil-rich countries, including Norway, Kuwait, the United Arab Emirates and even Canada, are using sovereign funds to build up investment portfolios that will support their populations in case their output from oil pools starts to decline. The Kuwait Investment Authority, a longtime investor in Chrysler, and the Abu Dhabi Investment Authority are respected for their acumen and, quite simply, for their size, according to those familiar with their activities. Norway's fund, meanwhile, is looked to as a model of transparency and governance, and its managers have been actively advising several nations, including East Timor, Bolivia, Nigeria and Russia, which are starting funds.

China's source of money is its trade surplus with the United States and other countries. In the past, China poured much of its surplus, estimated at $1.3 trillion, into U.S. Treasury issues. But now, it is seeking higher returns. On. Sept. 29, it took $200 billion from that surplus and launched a sovereign wealth fund.

Others funds are just getting off the ground and are hiring U.S. finance managers to learn how to run funds as productively as such high-return portfolios as the Yale Endowment and the $246 billion pension fund Calpers.

They are quickly becoming savvy about how to invest in the West.

"We advise them to be very careful in how they do direct investments that are politically sensitive," said Monte M. Brem, chief executive of StepStone Group, which advises sovereign-wealth-fund managers. "If you are going to do a transaction that will be in the realm of political sensitivity, make sure you do lobbying work."

With nationalistic concerns rising around the globe, many sovereign funds are giving their money to U.S. managers and letting them decide where to put it. Last month, Abu Dhabi, part of the United Arab Emirates, invested $1.35 billion in the D.C. private-equity giant Carlyle Group, a 7.5 percent ownership stake. But it agreed to forgo any management role. Likewise, China's fund bought a 9.9 percent stake in Blackstone Group but renounced any voting rights to avoid triggering a U.S. government response.

In the coming years, as these funds become more sophisticated and as the governments they represent develop more mature financial systems, they will become major competitors to the U.S. hegemony in finance.

"You can see already in 10 to 20 years these funds are going to lead to a sophisticated asset-management system in Asia and the Middle East," said Patelis, of Merrill Lynch. "We already have huge interest among our clients to link up with these funds. Everybody wants us to introduce them."

View all comments that have been posted about this article.

© 2007 The Washington Post Company