THE mission of China Development Bank (CDB), which was founded in 1994, is to support “the state's policies to implement disciplined development and build a harmonious society.” Barclays bank, which was founded in the early days of the Qing dynasty, exists to serve its customers and shareholders. The fortunes of this unlikely pair are now joined: the Chinese bank announced this week that it is taking a stake in Barclays—as is Temasek Holdings, part of the government of Singapore's investment arm. This will boost Barclays in its bid for ABN AMRO, a Dutch bank. It also marks a new adventurousness on the part of China's government. When it bought a $3 billion stake in Blackstone in May, the party men gained no control over what the private-equity partnership did with its money. This time CDB will have a seat on the board.
Although CDB is a state-owned bank, most governments buy their foreign assets through state-run investment pools, known as sovereign-wealth funds. These funds are getting bigger and bolder. They have some $1.5-2.5 trillion to play with, according to America's Treasury, a sum expected to grow fast. Although sovereign funds began investing conservatively, the Barclays deal shows that they can provide an attractive source of funding for mergers and acquisitions. Some sovereign funds are also getting into the buy-out business. Delta Two, a fund backed by the government of Qatar, is currently bidding for Sainsbury's, a British supermarket. Yet despite making their presence felt in financial markets, little is known about these funds.
To understand them, it helps to think about where their money comes from. Many emerging markets, notably China, have built up vast reserves of foreign exchange. Such reserves are traditionally invested in liquid assets like Treasury bonds, which could be sold quickly if the central bank had to prop up the currency. But many countries have far more reserves than they need for this purpose. And China is in any case protected by capital controls. That leaves the government free to buy more exciting things where it might make a better return. Earlier this year China decided to set up a sovereign fund.
Most of the other funds get their money from oil exports. Such funds have been around for some time—Abu Dhabi, for example, started a fund in 1976—but have been multiplying recently. Russia intends to channel some of the money from its Oil Stabilisation Fund, which invests in safe, liquid assets, into a more adventurous sovereign-wealth fund. Kazakhstan, Azerbaijan, Venezuela, Bolivia, Nigeria and Angola have all either set up funds recently or are looking at doing so.
Many of these funds are trying to imitate the success of Norway's Government Pension fund, whose staff have been flying around the world dispensing advice. One staffer recently spent a year and a half in East Timor helping to set up a fund there. “We have done a lot of work on how to decouple government revenues from the oil price,” says Martin Skancke, head of asset allocation for Norway's Ministry of Finance, shortly before boarding a plane bound for Bolivia. Norway's fund has two jobs: to act as a buffer against volatility in the price of oil and as a long-term savings vehicle. It too is taking on more risk. In April the fund announced it would increase the share of equities in its portfolio from 40% to 60%. Mr Skancke says it is now looking to buy up real estate.
Although the governor of China's central bank was in Norway a few weeks ago talking about sovereign-wealth funds, the Chinese fund is likely to be modelled on Singapore's two funds, GIC and Temasek. These entities are more used to taking big stakes in companies than Norway's fund, which will not buy more than 5% of any one company. Temasek, by contrast, bought 12% of Standard Chartered bank last year. The Singaporean funds also try to import expertise through their investments—hence a focus on telecoms and banking. It would be surprising if China's fund did not make investment decisions for similar reasons.
How scary is that?
It is hard to see how the exemplary Norwegians, Alaska's Permanent Fund Corporation or Australia's Future Fund could be anything other than a good thing for financial markets. But the other funds' lack of transparency is worth worrying about. If one made a bad bet and had to unwind it fast, nobody would know what was happening. No one knows how they manage risk. And although funds have tried hard to avoid buying assets that might attract the attention of politicians and voters, nobody knows how politically motivated they might become.
That said, sovereign funds are hardly the only force in the financial markets that remains murky. They should also prove to be long-term investors, able to buy when markets are flat or falling. “Our average bets are about $500m. These are medium to long-term positions,” says Sameer Al Ansari, executive chairman and CEO of Dubai International Capital. That is good for stability.
Such investments can bring benefits for the recipients too. John Varley, Barclays' chief executive, says that CDB's stake in Barclays will create business opportunities for his bank in China. Barclays Capital is looking to get into debt issuance and other structured products, and Barclays Global Investors will seek to manage assets for Chinese clients.
As long as such reciprocity remains, sovereign funds should find themselves able to shop fairly freely. America's Committee on Foreign Investment (CFIUS) has made it clear that it will consider the openness of other countries' markets when their governments are trying to buy American companies. On July 25th Alistair Darling, Britain's chancellor, said that Britain would resist any calls for protectionism arising from worries about sovereign-wealth funds, as long as the governments that backed them kept their markets open. If they want things to stay that way, the funds should open up too.