SOVEREIGN WEALTH FUNDS

BYPUNEET ANAND

RISHIKA SINGHALANNU DANGI

ABHISHEK SOLANKIVASU

A sovereign wealth fund (SWF) is a state-owned investment fund composed of financial assets such as stocks, bonds, property, precious metals or other financial instruments.

Pools of money derived from a country's reserves, which are set aside for investment purposes that will benefit the country's economy and citizens.

 Sovereign wealth funds are invested globally.

 Most SWF’s are funded by foreign exchange assets.

WHAT ARE SWF’s?

SWFs are state-owned funds

SWFs are managed separately from official foreign exchange reserves

SWFs have high foreign currency exposure

Unlike pension funds, SWFs have no explicit liabilities

SWFs have high-risk tolerance

SWFs have long-term investment horizons

CHARACTERISTICS

HISTORY

Kuwait Investment

Authority-1953

Revenue Equalization

Reserve Fund of Kiribati-

1956

Abu Dhabi Investment

Authority-1976

Singapore’s Government Investment

Corporation-1981

Norway’s Government

Pension Fund-1990

Coined By Andrew

Rozanov in 2005

Sovereign wealth funds are essentially set up to manage surplus foreign exchange reserves and revenues.

Some funds also invest indirectly in domestic industries.

In addition, they tend to prefer returns over liquidity, thus they have a higher risk tolerance than traditional foreign exchange reserves.

In 2012, there are more than 50 sovereign wealth funds, and according to the SWF Institute, has exceeding north of $5 trillion.

FACTS ABOUT SWF’s

SWFs are typically created when governments have budgetary surpluses and have little or no international debt.

The main reason for creating a SWF is because of the properties of resource revenue: high volatility of resource prices, unpredictability of extraction, and exhaustibility of resources.

Other reasons for creating SWFs may be economical, or strategic like when a nation has excess money, it uses SWF as a way to funnel it into investments rather than simply keeping it in the central bank or channeling it back into the economy. 

NATURE of SWF’s

Generate high return on investment

Ensure domestic economic stability

Reduce the volatility in tax revenues and export income

Diversify from natural resource exports

Strengthen the regional development

Accumulate savings for future generations

PURPOSE

Current account surpluses

Profits from sale of natural resources

National assets

SOURCES OF SWF

TYPES OF SWF’s

COMMODITY SWF NON-COMMODITY SWF

Commodity SWF’s are financed by exporting commodities. An SWF acts as a stabilizer to diversify the country's money by investing in other areas.

They have seen huge growth as oil and gas prices increased between 2000 and 2012. In 2012, commodity SWF’s totaled more than $2.5 trillion.

Non-commodity funds are typically financed by an excess of foreign currency reserves from current account surpluses.

Non-commodity SWF’s totaled $2 trillion in 2012, which is three times the total three years earlier. 

DECEMBER 2009

MARKET SHARE

NOVEMBER 2010

Transparency- Lack of transparency is a major concern for nations. SWFs are being criticized for inadequate disclosures regarding size and source of funds, investment objectives

Several countries are keeping their economies away from SWFs due to the concern that some investments are being diverted for political objective to acquire control of strategically important assets. It has been observed that OPECs have been diverting large pool of funds in acquiring strategic assets and investing in important sectors like infrastructure, telecom, energy and media across developed countries.

BIGGEST CONCERNS ABOUT SWF

POSITIVE – Reduce volatility and Support function

NEGATIVE – Currency movement and announcement effect

Role similar to those of Hedge funds and Financial Institutions.

IMPACT ON GLOBAL FINANCIAL STABILITY

SHOULD INDIA ESTABLISH ITS SWF?

Our Reserves: What Do They Really Represent?

• India currently faces the highest fiscal deficit it has recorded in the past decade and a half - a staggering 6.8%.Our reserves stands at over US $270 billion. India's reserves do not represent its actual net savings. These reserves are either debts which need to be paid back, or funds which may flow out of India at a moment's notice.

• Even if the current reserves could be put aside for SWF investment, there is little confidence that the current growth rate of our surpluses can be maintained.

• We do not have surpluses in our reserves which we can invest. A move to divert these funds from these reserves to form a SWF would be fraught with danger since it could prove to be disastrous in the event of a need to liquefy the reserves.

WHY INDIA IS NOT READY?

Risky Investments v/s Safe Bets: Assessing India's Risk Appetite

• The RBI is entrusted with the responsibility of handling India's reserves. These reserves are invested in the US treasury bills, which result in relatively low yields but are safe investments.

• SWFs are generally considered to have an affinity for risky and potentially high yielding investments.

• Withdrawing vast sums of Indian investments from the US treasury paves the way for further volatility in the global economy. This would also translate into the reduction of India's export competitiveness since the current reserves ensure that an appropriate level of currency prices is sustained.

Contd..

India facing challenges despite market recovery

• It has been said that the market situations have considerably improved over the recent months, India should look to take advantage of opportunity to set up a SWF and acquire assets at inexpensive rates.

• Though it is true Indian companies have done very well over the past couple of quarters, bettering expectations. On the other hand, the current fiscal deficit of US $270 billion, surging oil prices and the spiking inflation levels are indicative of the real situation which, on the whole, is far from favorable.

• Therefore, despite a promising market performance, SWFs may prove to be far less yielding than expected, or may have longer gestation period for maturity.

Contd..

Domestic Needs v/s Overseas Projects: Quenching Whose Thirst First?

• Setting up of SWFs is possible in countries which do not have challenging domestic needs. In other words, a poverty struck country like India setting up a SWF is, at best, unusual.

• India faces various domestic challenges and would need to focus more on and give a higher priority to the problems of poverty, infrastructure development, fiscal deficits.

Contd..

Post Recession Investment

• With proper and scrutiny judicious investment India can make small investments to obtain otherwise expensive assets

IS INDIA READY FOR SWF?

India's Current Financial Restraints

• As per some analysts, figured in the list of countries with the most accumulated reserves

• With a fractional fund earmarked for a SWF, India can start a relatively smaller SWF continue its knowledge gathering before making large investments

• SWF investments over the next few years, India can move towards reducing its fiscal deficit

Contd..

Strategic Investments - A Gain in Exchange

• SWFs are also tools of mutual strategic relationship building for countries, India becoming a world-power should leverage on that

• Investments through SWFs are often used to fulfill the objectives of a wider economic and/or political strategy of a country.

• For instance, an investment made using a SWF can further

economic relations between the host and the investor country, and can be translated into mutually beneficial terms of development.

• For SWF a body like SEBI will be created which will monitor,

manage and regulate

Contd..

Domestic v/s Abroad

• Since India’s economy is investment thirsty a nominal amount invested judiciously in SWF would prove beneficial than to have a blanket ban policy to restrict investment

• Returns from these investments can be cycled back into aiding domestic development

Contd..

THANK YOU