052

the scariest
funds
of all
By Jack Ewing
Illustration by Scott Menchin

Sovereign funds worth $2.8 trillion from

China, Russia, and the Mideast are
dramatically changing the financial map

CREDIT HERE

BUSINESSWEEK l NOVE M B E R 12, 2007


Even among money managers, Gao Xiqing isn’t a household
name. Yet the 54-year-old civil servant in Beijing oversees a
pile of cash that would make any hedge fund manager swoon.
Gao is general manager of the $200 billion China Investment
Corp., created this year to invest the mainland’s foreign cur-
rency reserves in global capital markets. Don’t mistake him
for some faceless Chinese bureaucrat, though. He graduated
from Duke University School of Law in 1986, spent two years
with a big New York law firm, then went home to help craft
China’s securities regulations.
It’s a combination that the global fi-
nancial Establishment better get used
to: a seemingly limitless pool of capital
overseen by Western-trained managers.
U.S. officials have been fretting about
China Investment Corp. and other so-
called sovereign wealth funds, calling
on such outfits to provide greater insight
into their operations, but there’s little the
West can do about these funds. Russia,
the Persian Gulf states, China, and oth-
ers have amassed fortunes from exports
of gas, oil, or manufactured goods, and
now they’re looking to supercharge the
returns they’re getting from that money.
All told, these funds today control more
cash than the world’s hedge funds com-
bined: $2.8 trillion vs. $1.7 trillion, according to Morgan Stan-
ley. By 2011 that figure may hit $8 trillion or more.
For Americans and Europeans, the big worry is what sov-
ereign fund managers plan to do with their huge pots of cash.
Because their interests don’t always match those of the West,
the looming question is whether they’ll simply go for maxi-
mum profit, or pursue more ominous political goals. The in-
creasing economic clout of undemocratic governments could
mean that “our markets will be less transparent, less yielding
to outside law enforcement,” Christopher Cox, chairman of
in depth
053
the Securities & Exchange Commission, said in a speech at
Harvard University on Oct. 24.
While few funds so far have thrown their weight around in
pursuit of political and strategic goals, state-controlled com-
panies from the same countries have done so, and many fear
the funds will follow in their footsteps. Russia’s state-owned
energy giant Gazprom, for instance, cut off gas supplies to
Ukraine last year after relations between the two countries
cooled. In October, Industrial & Commercial Bank of China
paid $5.6 billion for 20% of South Africa’s largest bank, and
last year state-owned oil company
CNOOC bought into a Nigerian oil field
for $2.3 billion. Dubai funds, meanwhile,
have sought to bolster their hometown’s
reputation as a world financial capital—
and hone their investing skills—by taking
stakes in NASDAQ and the London Stock
Exchange.
If Western officials are worried about
the funds, they have only themselves to
blame. The insatiable appetite of Amer-
icans and Europeans for oil and cheap
manufactured goods has flooded devel-
oping countries with foreign currency.
Western policymakers have spent years
pushing to open global capital markets,
creating the conditions that allow sov-
ereign wealth funds to thrive. And as U.S. credit markets limp
through the subprime mortgage crisis, the sovereigns may be
the best place to go for financing. “The U.S. is going to have
to import large amounts of capital from the rest of the world
as long as there’s a big imbalance between what we save and
what we spend,” says Robert D. Hormats, vice-chairman of
Goldman Sachs (International).
Saudi Arabia, China, and others have traditionally plowed
their reserves into U.S. government bonds earning perhaps
5% annually, but they’re no longer satisfied with such paltry
NOVE M B E R 12, 2007 l BUSINESSWEEK
 in depth

054
returns. In the past year, investment operations controlled by
the emirate of Dubai have bought New York clothing retailer
Barney’s and German industrial packaging maker Mauser, SUPERSIZED SOVEREIGNS
and have taken 3% stakes in both Airbus parent EADS and Value of major national investment funds, in billions*
ICICI, India’s No.2 bank. The Government Investment Corp.
of Singapore, a country known for stubbornly pursuing its
own interests, owns some $80 billion in real estate assets
Abu Dhabi
$
900 Russia 133
$

worldwide, including such trophies as the 60-story AT&T

Corporate Center in Chicago, Tokyo’s Shiodome City Center, Singapore
$
438 Qatar
$
50
and Merrill Lynch’s European headquarters in London. And
Gao’s China Investment Corp. in May agreed to pay $3 bil- Norway
$
367 Australia
$
49
lion for a 9.9% stake in private equity firm Blackstone Group
(although the shares have since lost 18% of their value). Kuwait
$
213 Alaska
$
39
The funds are already becoming the go-to guys for financial
heavyweights the world over. In July, for instance, London’s China
$
200 Brunei
$
30
Barclays bank needed billions in fast cash to bolster its bid *Highest estimate
for Dutch rival ABN Amro, but the subprime crisis was rag- Data: Peterson Institute for International Economics

ing and the usual sources of credit were in lockdown mode.

Barclays’ President Bob Diamond hopped an overnight flight
to Singapore for an audience at the art deco headquarters of
on of the city-state’s sovereign funds, Temasek Holdings.
Within hours, Temasek pledged $5 billion. The Barclays bid
ultimately failed, but the transaction left Temasek with a 2%
stake in the bank. And in September, Temasek scored an M&A
victory when the fund teamed up withy its subsidiary Singa-
pore Airlines to take a 24% stake in China Eastern Airlines,
acing out Hong Kong’s Cathay Pacific.
Temasek has a track record that any of the newcomers
might envy. Founded in 1974 to invest Singapore’s budget
surpluses, Temasek has averaged a return of 18% annually and
now holds assets worth $110 billion. Its diverse portfolio in-
cludes 25% of Indian broadcaster INX Media, 8% of Austrian
vaccine-maker Intercell, and a slew of Asian banks includ-
ing 5% of Bank of China. Temasek is run by the wife of Prime
Minister Lee Hsien Loong, Ho Ching, who holds a master’s
degree from Stanford University. And the fund also includes
foreign talent, such as second-in-command Simon Israel, a
FEAR FACTOR
While some say the funds are good for markets, others fret about their growing clout
The Positives The Negatives
New Zealander who previously headed the Asian operations
of French food giant Danone.
It’s no surprise that investment banks and asset managers
love the sovereigns. While such funds are still only about an
eighth the total size of the world’s pension funds (which have
$21.6 trillion in assets), they’re becoming increasingly impor-
tant customers for investment banks. Norway uses more than
50 outside firms to help manage its $367 billion fund, hand-
ing out $73 million in bonuses last year to the likes of Lehman
Brothers and Morgan Stanley. All told, the sovereigns are like-
ly to fork over fees of $4 billion to $8 billion to asset managers
worldwide over the next five years, Merrill Lynch estimates.
“The big investment banks are salivating at the prospect of
[doing business with] these funds,” says Kenneth S. Rogoff, a
professor at Harvard and former chief economist at the Inter-
national Monetary Fund.
Many economists argue that the sovereigns make global
capital markets safer. The funds don’t have to worry about
panicky investors withdrawing money when markets tank,
and most don’t have to make regular
payments the way pension funds do.
That means they can take the long view,
helping stabilize the prices of stocks and
bonds that they own. “We are able to hold
on to our positions in times of turmoil,”
says Martin Skancke, director general of

1 1
the Asset Management Dept. in the Nor-
The funds could help stabilize Most are notoriously secretive wegian Finance Ministry, which oversees
markets because they invest about their activities, making other the country’s Government Pension Fund.
long-term and don’t need to cater investors guess what they’re up to (Despite its name, the agency doesn’t

2
to panicky clients actually pay pensions and is instead de-

2 Some, such as Norway’s fund,

By buying into strategic
companies abroad, the funds
signed to build a national nest egg for the
day when Norway’s oil reserves run dry).
JOE KLAMAR/AFP/Getty Images

have aggressively pushed for may give governments undue

Sovereign wealth funds may also take
better corporate governance influence over industry
a more gentle approach to acquisitions

3 The funds typically have a

strong appetite for risk, helping
shore up new ventures and
emerging markets
3 If too many of the funds show
a strong preference for
emerging markets, the dollar
could tumble
than private equity or hedge fund in-
vestors, whose aggressive restructuring
often provokes public ire. When Dubai
International Capital bought British
theme park operator Madame Tussauds

BUSINESSWEEK l NOVE M B E R 12, 2007

 in depth

in 2005, for instance, it left management in place. “We don’t
have the resources to manage companies or spend months
finding replacement management teams,” says Sameer Al
Ansari, CEO of Dubai International.
Western policymakers fret that, like hedge funds, no one
knows for sure what most sovereign funds are up to. Without
reliable information about their investment strategies and
holdings, rumor mongering takes over, which can create tur-
moil in the markets. While Norway issues a detailed annual
report, the Abu Dhabi Investment Authority, with holdings
estimated at as much as $875 billion, discloses almost no in-
formation. Analysts assume most of the Abu Dhabi money is
in ultrasafe U.S. Treasury bills, but a recent Citigroup report
said the fund also has extensive investments in Middle East
banks as well as two cement companies in the region. Through
its Mubadala Fund, with a value of some $10 billion, the gov-
ernment of the United Arab Emirates is also experimenting
with riskier investments. In September it paid $1.35 billion for
a 7.5% stake in private equity firm Carlyle Group.
To counter concerns over the funds’ lack of transparency,
U.S. and European officials are pressing the sovereigns to
disclose more about their activities. Leaders of the Group of
Seven nations, meeting in Washington in October, asked the
International Monetary Fund to examine the issue—although
it’s unclear what the IMF might be able to do. The goal in
pushing for more accountability is to head off harsher mea-
sures that might hurt U.S. commercial interests abroad, says
Clay Lowery, Assistant Secretary for International Affairs at
the Treasury Dept. “We are worried about an over-reaction
leading to protectionism, putting up barriers in the U.S. to
legitimate investment,” Lowery says. In any event, it may be
055
hard for Western policymakers to argue that the sovereigns
should be more open without imposing similar rules on hedge
funds or private equity, which are generally no more transpar-
ent. The best hope is that sovereign funds decide it’s in their
interest to open up.
One of the biggest victims of the rising power of the sover-
eigns could well be the dollar. As the funds shift their enor-
mous assets away from U.S. Treasury bills, for instance, one
of the greenback’s biggest pillars of support could start to
crumble. And with the funds showing a strong preference for
emerging-market assets, the dollar could suffer even more.
Indeed, many of the funds don’t seem very interested in buy-
ing in the U.S. at all. “Why would you want assets denomi-
nated in a declining currency?” asks Merrill Lynch economist
Alex Patelis.
So far, the track record of the sovereign funds suggests they
will move carefully to avoid provoking major opposition. Last
year, Dubai International Capital gave up an attempt to buy
the Liverpool soccer team amid fervent public opposition,
though DIC cited price as its reason for withdrawing. And
when Dubai was ready to seal a deal with Nasdaq, it spent big
money on Washington lobbyists and carefully briefed key leg-
islators. “It’s not our country,” says Soud Ba’alawy, executive
chairman of Dubai Group. “Whether we like it or not, we have
to adapt.” ^
–With Chi-Chu Tschang in Beijing, Assif Shameen in Singa-
pore, Stanley Reed in London, Jane Sasseen and Emily Thorn-
ton in New York, and Jason Bush in Moscow

The frozen chosen

Thanks to its pipeline payoff, Alaska
has $40 billion to burn

By Eamon Javers
The huge wealth of sovereign funds has
sparked lots of anxiety in Washington.
But one of the biggest such outfits is
headquartered in Juneau, Alaska.
Since 1976, 25% of the state’s
mineral and oil revenue has gone into
the Alaska Permanent Fund. Now worth
$40 billion, its goal is twofold: to gener-
ate dividends for residents, and to build
up funds for the day when the oil runs
out. In recent years, a small amount has
also gone to pay for capital projects
around the state. This year, the 604,000
Alaskans each got $1,654. “For a place
like Alaska, this is an extreme amount
of money,” says Michael J. Burns, chief
upi
executive of the Permanent Fund’s
management corporation.
Burns runs the outfit much like a
public pension fund in the Lower 48.
Early on, it primarily invested in Treasury
bills and corporate debt, but managers
have gradually embraced greater risk.
That shift allowed the Alaskans to dive
into venture capital and hedge funds,
including a $40 million investment in
Blackstone Capital Partners in 2005.
Now, publicly traded stocks make up
53% of the fund, bonds 29%, real
estate 10%, and alternative assets, such
as hedge funds, 8%. Alaska’s voters
own, among other things, more than 7
million shares of General Electric, an
apartment building on East 87th Street
in Manhattan, and stakes in four dozen
private equity funds. All the details are
publicly disclosed.
Although oil production in Alaska is
declining, the state contributed about
$575 million in new petrodollars to the
Permanent Fund this year. But that
was dwarfed by the fund’s $5.4 billion
in investment returns. The hefty payoff
is a sign that the fund—if not the state
itself—is already weaning itself from oil.
Burns points out that many sovereign
funds around the globe face a common
problem. “When you’re in the extraction
business,” he says, “you know there’s an
end to what you can get from the earth.”

NOVE M B E R 12, 2007 l BUSINESSWEEK

CopyDesk Header Info
(Do not delete the sentence above)

Slug: sovereign46
Reporter/Writer: Ewing
NY Editor: Rocks
Copy Editor: Newman
COMPANY INDEX
(Do not delete the sentence above)

China Investment Corp.

Morgan Stanley (MS)
Gazprom
VTB
Airbus
EADS
Goldman Sachs (GS)
Dubai International Capital
Mauser
Government Investment Corp.
Merrill Lynch (MER)
Blackstone Group (BX)
Barclays (BCS)
ABN Amro (ABN)
Temasek Holdings (CK)
JPMorgan Chase (JPM)
Citigroup (C)
Abu Dhabi Investment Authority
Carlyle Group
Dubai Group
HSBC (HBC)
Dubai Investment Group
Dubai Holding
DESK QUERIES: Please DO NOT return story to desk without confirming or correcting.
(Do not delete the sentence above)

Duke University Law School (we show it’s School of Law) ... sure
law firm is Mudge Rose Guthrie Alexander & Ferdon, dotters show -- no need to name
Mauser as industrial packaging maker (dotters find it’s an arms maker) --different company. this one makes steel drums
tk-story AT&T center (dotters show it’s 60 stories) .. 60 is fine
Barclay’s (it’s Barclays) ... sure
Bob Diamond, chief operating officer (we show Robert E. Diamond, president and executive director) ... Robert E. Diamond Jr.,
president
Temasek fund (we show it’s Temasek Holdings) ... Temasek Holdings
1974 as year Temasek founded (dotters show 1975) ...1974
Citicorp (Citigroup?) ... citigroup
m.i. “S.” ok for Rogoff?
Abu Dhabi Investment Authority & Corp. (we don’t show the & Corp. but only Abu Dhabi Investment Authority) ...Abu Dhabi
Investment Authority is fine
Mubdala fund (we show Mubadala Fund) ... Mubadala fund (lc) is correct
The Carlyle Group (just Carlyle Group) ... no “the” is ok
Dubai Group (we show Dubai Group and Dubai International Capital both part of Dubai Holding) ...that’s correct
Dubai Investment Corp. (we show Dubai Investment Group) ... should be Dubai International Capital ...
DIC (DIG?) ... correct second ref for Dubai International Capital ...
So’ud Balawy (we show Soud or Saud Baalaway or Ba’alaway) ...Soud Ba’alawy, executive chairman of Dubai Group

thanks and regards/desk

suggested hed:

The New
Flags
Of Fortune
Sovereign funds from the likes of China, Russia, and the Mideast control $2.8 trillion——more than all hedge funds—and are
dramatically changing the global financial landscape

Banks and other financial players have been favorite acquisition targets for sovereign funds. It helps that such deals haven’t
created much opposition. But the funds also are interested in getting their hands on banks to gain knowhow and influence in
the West and to bolster their financial systems back home. Government-controlled Borse Dubai, for instance, is chasing a $6.5
billion deal that would give it a 20% stake in Nasdaq, in part because it wants to create a similar stock exchange in the Gulf. And
Dubai International Capital, also controlled by Dubai’s ruler, owns 3% of British bank HSBC, worth $6 billion. Borse Dubai also
has 20% of the London Stock Exchange while the Qatar Investment Authority has 15%.