When Elon Musk wanted to finance the buyout of Tesla’s other shareholders, he turned to the Public Investment Fund of Saudi Arabia. The Arab kingdom is in the process of expanding the investments of this fund from $100 to $300 billion.
Tesla is just one of many companies around the world seeking investment from sovereign wealth funds (SWFs ). According to the SWF Institute, the assets of these funds have risen to $7.8 trillion in mid-2018 from $1 trillion in 2000, with a projected rise to $10 trillion in 2020.
SWFs perform important functions for their sponsoring countries. Many of these funds help energy-producing countries in the Middle East recycle their current account surpluses into diversified global portfolios. Several of these funds, in Canada and South Korea, for example, help governments to meet national pension obligations. More generally, SWFs are viewed as long-term investors that can contribute to the stability of the global financial system.
Yet there’s a darker side to some SWFs’ largesse — one that demands greater transparency from them to alleviate possible threats to the intellectual property or national security of recipient countries where SWFs make large investments. Officials in these countries are becoming increasingly concerned about the true motives and potentially adverse effects of SWFs. The U.S. and Germany, for example, have come to question whether SWFs are operating as advertised – independent entities making commercial investments to maximize long-term financial returns. Instead, some SWFs may be quietly seeking to advance the objectives of their sponsoring governments — for example, by investing in Western companies for material information related to advanced technologies or critical infrastructure.
Yet, officials and investors in recipient countries face daunting challenges in evaluating the local impact of most large SWFs. Most SWFs purport to invest solely to maximise financial returns, without recognising the likely influence of the social or political policies of their sponsoring governments. Most promulgate only general information about their investment objectives and asset allocation, rather than the extent of their holdings in specific companies.
In 2008, the large SWFs developed and agreed upon the Santiago Principles, a set of recommended practices for these funds. However, these principles do not address two key informational needs of recipient countries — to be told when a SWF is investing to fulfill a non-financial goal of its sponsoring government, and what are the significant holdings of the SWF in recipient countries.
To illustrate the legitimate concerns of recipient countries about the transparency of SWF’s, look at the China Investment Corporation (CIC) — the world’s second-largest SWF, with close to $1 trillion in assets. CIC’s disclosures pale by comparison to the disclosure practices of the Norway Pension Fund — the largest SWF with more than $1 trillion in assets – which are responsive to the concerns of recipient countries. In our view, the Santiago Principles should be revised to recommend that all SWFs follow the disclosure practices of the Norway Pension Fund.
Consider: In its 2017 annual report, the CIC repeats its usual objective — to invest on a commercial basis in order to maximise financial returns. Yet in the same report the CIC stated that the Fund has “aligned our investments and services with the Belt and Road initiative”. The Belt and Road initiative, launched by Chinese President Xi Jinping, is widely perceived as an effort to boost China’s influence in Southeast Asia and other regions. The Belt involves building overland infrastructure connecting the 60- to 70 countries along the historic Silk Road. The Road involves connecting maritime corridors in the South China Sea, the South Pacific Ocean and the Indian Ocean.
While the Belt and Road Initiative may offer some attractive investment opportunities, it involves large projects that may be aimed more at political than financial goals. With limited exceptions, its annual report does not delineate when the CIC is investing in pursuit of the geopolitical objectives of this Initiative or other non-financial policies of the Chinese government.
In the 2017 annual report, the CIC also asserted: “Our efforts at prompt and comprehensive disclosure are widely appreciated by recipient countries.” Yet the annual report for 2017 does not include a list of the CIC’s significant investments in equities of public or private companies outside of China. According to our review of the annual reports of CIC during the last decade, it stopped including a useful list of its large equity investments outside of China after 2012. CIC may now be doing most of its international equity investing with or through third party entities, where it is difficult to monitor the extent of CIC’s actual holdings.
By contrast, the Norway Fund clearly discloses when it deviates from its general objective of maximising financial returns to comply with directions from its governmental sponsor. In particular, the Fund explains why it is excluding investments in certain companies based on ethical criteria established by the Norwegian Parliament. Similarly, the annual report of the Norway Fund is a model of useful transparency on its holdings — showing both the largest holdings of the Fund as a percentage of its assets and those companies where the Fund holds the largest percentage of their outstanding equity.
The contrasting disclosures of the CIC and the Norway Fund are representative of broader trends. The disclosures of the SWFs from many Middle East countries, such as Oman and Qatar, are even less forthcoming than those of the CIC. In contrast, the disclosures by SWFs in Australia and Singapore are as highly rated as those of Norway under the Linaburg-Maduell Transparency Index.
Nevertheless, the CIC and the SWFs from the Middle East can claim to be complying with the Santiago Principles as currently written. Most importantly, Principle 11 calls for an annual report with an emphasis on audited financials, rather than a specific list of significant investments by a SWF. Principle 22 recommends that SWFs report a complete list of their assets to their owners – that means the sponsoring governments, not investors or officials in recipient countries.
In short, SWFs control huge asset pools that can have major impacts on both companies and countries. To assuage the legitimate concerns of investors and officials in recipient countries, all SWFs with over $100 billion in assets should follow the disclosure practices of the Norway Fund by promulgating a complete list of their large investments and making clear when these investments are made in pursuit of government policies (other than maximizing long-term financial returns). These best practices should be enshrined in a revised set of Santiago Principles, which should be endorsed by all SWFs.