Sovereign wealth fund (SWF)

A sovereign wealth fund (SWF) is an investment fund that is owned by a government. The funds invested through such funds are usually the proceeds of non-renewable natural resources or a higher return alternative to holding foreign currency.

Expansion of sovereign wealth funds in recent years has been driven by:

  • ballooning East Asian foreign exchange reserves, and
  • the need for oil rich countries to invest oil money to provide income to replace that from diminishing oil reserves.

The pioneer SWF was, in many ways, Singapore's GIC. It is large was one of the first government owned portfolio investment funds.

Although there have been fund set up and run by governmental entities before the expansion of SWFs, these were different in various ways. For example there were many government pension funds (such as CALPERS), but these differed in that the proceeds belonged to pensioners, not governments. Central banks have long managed foreign exchange reserves, but these have been conservatively invested and aimed to provide liquid funds for crisis management and market intervention rather than good long term returns.

SWFs also differ from government funds that invest in their own country as these are usually driven by the desire to direct the economy in some way (for example by investing in industries whose growth will have some benefit for the broader economy) rather than being primarily aimed at generating high returns.

The rise of SWF investment across national borders has also caused some controversy with many of the major economies (rather hypocritically) worrying about large chunks of their economy being controlled by other governments.

Another concern about SWFs is that the political influence to which they are subject makes them likely vehicles for “crony capitalism”.

The continues growth of SWF investment is likely to have significant effects on financial markets. At the very least they represent a noticeable shift of money from government bonds to equities. Add to this the political and regulatory implications and they look like a very significant change indeed.

Copyright Graeme Pietersz © 2005-2020