Understanding ADIA

Cerulli Associates, Global Edge, February 2008

The Abu Dhabi Investment Authority is widely believed to be the largest sovereign wealth fund, and perhaps the largest institutional investor of any description, in the world.

Why don’t we know for sure? Well, click on the institution’s web site, www.adia.ae, to get a flavour of the place: there is an address, phone and fax number – and nothing else. No other pages to click through to. No description of what ADIA is, what it’s for, what it invests in, how much it holds, who owns it or who works there. Never, since its establishment in 1976, has it disclosed a single number about its holdings.

There are two useful sources of information about how ADIA handles its money and how it allocates mandates to managers. One is a very rare interview two of its executive directors gave to Euromoney magazine in 2006; the other is background interviews Cerulli has conducted with former employees and fund managers who have worked with (or pitched to) ADIA. Between them, these provide a picture of how this secretive organisation behaves.

First, the number: there is not a consensus on what ADIA holds but it is interesting that two different analysts, at Deutsche and Morgan Stanley, came up with the same precise number of US$875 billion in reports during 2007 (Standard Chartered reckons US$625 billion). Saeed Mubarak Al Hajeri, the executive director of ADIA’s emerging markets department, told Euromoney in 2006 that between 70 and 80% of the organisation’s assets are managed externally, with the aim being to move to a 60-70% range. That means up to US$700 billion of assets from ADIA are managed externally.

That doesn’t mean it all goes to fund managers: ADIA is a big investor in individual companies in their own right, whether through private equity or large stakes in listed corporations. But nevertheless, the rewards available to fund managers are very clear, since for a mandate to have any kind of relevance on a portfolio of that size, it has to be big.

If there was ever a time when a relationship was enough to get a mandate with a group like ADIA, those days are long gone. ADIA is a highly sophisticated organisation. It has a global portfolio, broken down into sub-funds for different asset classes, to a highly specific level: in fixed income, for example, asset classes include global government bonds, global investment-grade credit, emerging markets and global inflation-indexed bonds, with cash a separate asset class again. On the equity side many mandates are awarded for investment in a single country or sector. And each asset class has its own in-house analysts, its own benchmark and guidelines, with a range of different investment strategies and techniques. There is a highly experienced in-house team that does nothing but pick third party fund managers for these asset classes, using a combination of quantitative and qualitative measures to decide on selection, including track record (funds normally need to have been going for five years before being considered), standard deviation and tracking error, quality and depth of team, and quality of reporting.

Once through the door, those who have secured mandates from ADIA report an exacting time keeping the client happy. ADIA expects regular and detailed briefings which not only report performance but explain it. Managers are given very precise mandates in order to avoid geographical or asset class overlaps with other mandates. They are given benchmarks tailored to their asset class and their investment style, and they are expected to beat them consistently. And boy, are ADIA tough on fees: anecdotal reports from managers say it will often try to negotiate a rate roughly half that of most institutions, and that fees in the 30s (basis points) are not uncommon even on active portfolios.

ADIA has a reputation for being willing to try out some unusual and daring asset classes: it was a very early mover into inflation-linked bonds, emerging markets, and hedge funds. It is believed to be one of the biggest investors in the world into global hedge funds and private equity.

In the 2006 interview ADIA gave some indication of its asset allocation: 50 to 60% in equities, 20 to 25% in fixed income, 5 to 8% in real estate, 5 to 10% in private equity and 5 to 10% to other alternatives. Its underweights tend to be commodities and the Middle East itself: another group, Abu Dhabi Investment Company, handles investment activities in the region instead.

Within that allocation, ADIA is understood to take quite strong positions when it believes in a particular market. That, though, is unlikely to be obvious to a fund manager, who will generally have absolutely no idea how a mandate it is managing fits into the overall portfolio but will instead just be expected to manage that mandate in isolation. And it’s not just external fund managers who are in the dark: Cerulli understands from former employees that even those running portfolios in-house don’t know what proportion of the overall book they are in charge of, or how it fits into the overall allocation.

When ADIA goes directly into the stock markets, it tends to use a few techniques to dampen its impact. One is the use of futures, which have the advantage of usually not being exchange-listed. It has also generally tried to keep holdings below the level at which they are obliged to disclose a shareholding to the relevant stock exchange. A notable diversion from this policy came when it purchased a US$7.5 billion stake in Citigroup in November, equating to around 5% of the company’s stock: it was an unusually public transaction. Generally, ADIA likes to be below the radar, an approach that sets it apart from the slightly brasher approach taken by some other sovereign funds in the region, such as the Qatar Investment Authority. Other financial institutions ADIA has been linked with as a shareholder include the Chinese bank ICBC, the private equity houses Apollo and Carlyle, and the Egypt-based financial services group EFG-Hermes, though none of these holdings have been confirmed.

Since ADIA invests the surplus revenues generated by oil in the United Arab Emirates, and oil is at an all time high, ADIA is just going to keep getting richer. It is understood that in 2005, with oil at around $60 a barrel, ADIA took on about $30 billion from the government, so at $100 a barrel the sums are going to be proportionately larger.

For fund managers, that’s obviously good news: more and more money to be outsourced. But for ADIA, it presents something of a problem: if it’s difficult to invest with discretion and minimal impact today, it’s going to get a whole lot harder in future.