Euromoney: A new world of sovereign wealth

Euromoney, September 2013

For many years, the global fund manager has had four names on the must-see list when visiting the Gulf: the Abu Dhabi Investment Authority, the Kuwait Investment Authority, the Saudi Arabian Monetary Agency and, more recently, and with an increasing sense of futility, the Qatar Investment Authority. But lately, a second tier of state-backed institutional wealth has started to emerge. They’re not necessarily any easier to pitch for mandates, but at least it makes for a little variety.

This trend has been underway for years in Abu Dhabi, which has long bewildered the outsider trying to understand the delineation between its many sovereign entities. Beyond ADIA, there are not one but two ADICs – one of which, known universally as The Council, appears to be in clear overlap with ADIA, if not in outright competition with it. On top of that there is IPIC, Mubadala and at a federal level the Emirates Investment Authority. But those institutions are all well-known and bedded in, and external consultants and managers have learned to live with the opacity of their various mandates.

Instead, the emergence of a new tier is most pronounced in Kuwait and Saudi Arabia, and with a particular tilt towards local society and especially education.

“Sovereign institutions go through a process from establishment to foundation to delivery,” says Douglas Hansen-Luke. “Most of these second tier funds are in the establishment to foundation phase: people don’t talk about them.”

But they’re there, and growing. “On a regional and a global level, we’ve seen the development of what are effectively different types of sovereign investment entities,” says Nick Tolchard, head of the Middle East for Invesco. “In a country like the UAE, there are well-known international investment funds and local development sovereign funds. That seems to be a theme that is developing regionally: there are funds with an investment objective to get long term returns and externalise their assets, and there are funds that have more of a state investment objective in their own markets.”

Three institutions stand out in illustrating the trend: Sanabil, the Saudi Arabian sovereign wealth fund that is finally beginning to make some public investments; the endowment fund of KAUST, the King Abdullah University of Science and Technology north of Jeddah (though the fund itself is managed from the US); and the Qatar Foundation Endowment.

The first of the three to be announced has also been the slowest to actually do anything – or at least, anything visible.

On July 15 2008, a new institution called Sanabil al-Saudi (also called Sanabel, or the Saudi Arabian Investment Company) was launched. It was billed as a sovereign wealth fund – really Saudi Arabia’s first true SWF.

The context to this is that prior to Sanabil’s arrival – and still today – the institution that acted as Saudi’s sovereign fund was the Saudi Arabian Monetary Agency in Riyadh. Senior executives of the fund never liked it being referred to as a sovereign wealth fund: it is, first and foremost, the Kingdom’s central bank, a role it has held since its foundation in 1952. It issues the currency, supervises the banks, manages foreign exchange reserves, acts as banker for the government, sets monetary policy and generally assumes responsibility for the soundness of the country’s financial system.

But SAMA also manages the country’s foreign reserves through its General Investment Department, and those reserves are very substantial: at the end of the first quarter 2012 it had SAR2.103 trillion in net foreign assets, or SAR1.447 trillion if you strip out deposits with banks outside Saudi and currency cover in gold. This is why it remains the first port of call for any banker or fund manager in Saudi Arabia: because, even if it’s only a part of what it does, SAMA is clearly one of the world’s largest sovereign funds.

The genesis of Sanabil came not out of SAMA but through another body, the Public Investment Fund, which was established in 1971 and is linked not with SAMA but the finance ministry. PIF started out with a mandate to provide financial support to commercial projects that would help develop the national economy – similar institutions exist in Abu Dhabi, among other places – but in 2008 was mandated to manage a pure sovereign wealth fund: a vehicle investing specifically for the state with a long-term investment horizon. And that is Sanabil al-Saudi.

There was therefore great excitement in the international asset management community at Sanabil’s appearance, in the hope that it might one day be seeded with some or even all of SAMA’s foreign securities holdings. Back in 2008, it was set up with SAR20 billion (then US$5.8 billion) in assets, and a reporting line directly into PIF. Then, it was said that it would begin making investments in six months’ time – finance minister Ibrahim al-Assaf said at the time that it would start out with a focus on technology investments – and that it could potentially become very big indeed. One official was quoted as saying that it could eventually reach $900 billion in assets, which seems an oddly specific number until you note that at the time, it was commonly thought that ADIA had around US$800 billion.

In the years that followed, various big-name foreigners were recruited by Sanabil, only to leave again before too long.

Réal Désrochers was first, in 2009. Désrochers had been director of private equity and alternative investments at the California State Teachers Employees’ Retirement System (CalSTRS) when he was poached to Sanabil. He served as chief investment officer there and helping to set the whole enterprise up. He joined Calpers as senior investment officer for private equity and head of alternatives in May 2011, but harbours no ill-will towards Saudi Arabia. He declined to comment to Euromoney, saying only: “They are good friends and always will be.”

Next was Scott Lanphere, who was hired as head of direct investments in October 2011. Lanphere was a big hire and his move was remarked upon worldwide: he had founded the private equity firm Aletheia Partners, but was best known as a former senior executive of Morgan Grenfell Private Equity who was instrumental in the firm’s involvement in Formula 1. The role didn’t last: he was gone by December of that year, having lasted three months.

The next was John Breen, who confirmed in March 2012 that he was joining as senior executive investment officer (apparently as head of direct investments) after five years at the Canadian Pension Plan Investment Board, where he was a fund investing and secondaries expert.

These big names have suggested big activity, but for six years senior fund managers have been frustrated not just by a lack of movement, but of any sense of what the plan is. Many say they still don’t know who they should be talking to there, though Turki Al Malik, the chief operations officer, is generally said to be the person to speak to.

“We struggle to see them, as do a lot of other people,” says one international fund manager in the Gulf.

“They’ve had very high employee turnover and a complete mismatch between what they say they are going to do and what they are actually doing,” Sanabil are absolutely appalling,” says another fund manager, not quoted elsewhere in this article. “There has been no clarity of purpose. Until, perhaps, now.”

Because finally, in January, there came an investment. Sanabil combined with the Saudi Public Pension Agency to buy a 19% stake in ACWA Power International, a power and water company, with Morgan Stanley advising on the deal.

This deal did several things. Firstly, it was the first public investment from Sanabil, with its first public statement, when Ibrahim bin Muhammed Alromaih, the chief executive officer, said the investment was “consistent with its strategy to invest in the growth of Saudi private companies that contribute to the local economy.” He also told a local paper that the fund had bought a stake in a local health investment firm and was looking at local mortgage lending firms and chemical makers. He said the fund had SAR20 billion – exactly the same as in 2008 – and that it planned to invest abroad in private equity funds and securities.

The ACWA deal wasn’t what most international advisors were hoping to see. This domestic tilt, rather than an international diversification of assets in the style of ADIA and the KIA, was a disappointment. But actually, those on the ground had seen it coming for some time.

For one thing, the Arab Spring had prompted Saudi Arabia to embark on a period of sustained social spending to keep its population happy. A few days after Hosni Mubarak’s regime fell in Egypt in February 2011, Saudi announced a social welfare package for its citizens worth $10.7 billion, a figure that rose to $37 billion by the end of that month and was followed by a further $93 billion of social spending the month afterwards. Mainly it was about grassroots things like pay rises for government employees, loan forgiveness schemes and new social infrastructure, but the Sanabil local focus should to some extent be seen through that focus. Saudi is not alone in this. “There is a general trend in many Middle East funds to support development locally or regionally,” says Rod Ringrow, who heads the EMEA region for State Street from Dubai.

And besides that, a renewed focus on local socio-economics had been underway well before events in Egypt and elsewhere. ”I think many of these developments would have happened anyway,” says Tolchard. “I know that the emphasis on education and building knowledge-based economies predates the Arab Spring. I’d say that was a longer strategic drive based on economic diversification. The Arab Spring has just created a renewed focus on that.”

Also, every single major foreign hire that Sanabil had made, no matter how brief, was around private equity and other direct and alternative investment models. It should have been clear for some time that Sanabil wasn’t going to do an ADIA and come out with a neat delineation between various classes of public equities and debt, but instead to make direct investments.

That said, the fact that Sanabil hasn’t made public investments internationally doesn’t mean they haven’t happened. “They are doing investment internationally. They are just really secretive,” says one familiar with the fund. “I would compare them to SAFE in China. SAFE is actively investing around the world, but you never see their name. They are investing quietly.”

There is still hope for foreign fund managers, but really only those with a focus on private equity, which appears to be where any international expansion will eventually take place.

“My understanding now is they are going to invest primarily domestically through private equity, long-term investment,” says one fund manager. “The reason people still get confused about it is they still have a significant pool of cash being managed on a treasury basis in international markets. So, yes, they are quite significant institutional and public market investors – but just because they’ve parked the funds until they can allocate them in Saudi.”

As for the slow pace, one person familiar with the fund says: “It’s young. It’s a creation, a start-up. They really want to do the right thing. It has a lot of other scrutiny from the other organisations in Saudi Arabia,” including the PIF, GOSI and SAMA. “That is why it takes so much time.” And on top of that is the rapidly changing nature of the Gulf itself, with the perceived need not just for investment in local social infrastructure, but in neighbouring, troubled countries, most obviously Egypt. That all has a knock-on effect on the development and mandate of Saudi state institutions. “I don’t now how Sanabil might develop. Things are so fluid, I don’t think they know themselves.”

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A key plank of Saudi’s social spending involves education. And several hundred miles west of Sanabil’s offices on the 11^th floor of the Abraj Tower in Riyadh’s Al Olaya Area, the clearest expression of Saudi’s commitment to education is taking place by the Red Sea north of Jeddah.

This is the King Abdullah University of Science and Technology, a preposterously ambitious facility that is the keystone of the King’s vision for Saudi Arabia to be at the forefront of science and technology by 2020.

The development of the university was seeded by a considerable bounty which has been consistently reported as US$20 billion, to be put under an endowment fund called KAUST Investment Management Company. By early 2009 this had assembled an impressive board of directors, including some of the biggest names in Saudi itself (such as Prince Khalid, Minister of Petroleum and Mineral Resources Ali Ibrahim Al-Naimi, Lubna Olayan, and Abdullatif Al-Othman of Saudi Aramco) and multinationals (John Brennan, the chairman of Vanguard; Charles Ellis, chairman of the investment committee of Yale University; and Choon Fong Shih, who is the founding president of KAUST itself).

Two of those names are particularly relevant. One is Ellis at Yale, because from the outset there has been great hope in the investment management community that KAUST IMC would resemble the fabled (though recently somewhat battered) endowments of the likes of Yale, Harvard and Stamford. The other is Al-Othman of Aramco, for Aramco has been at the heart of everything about this venture: it built and runs the campus, and is said to remain closely involved – too closely, according to some academics who have left the fledging university.

On March 18 2009, the board announced it had been a decision on the CEO and CIO of the endowment: Gumersindo Oliveros, the director of the pension plan and endowments at the World Bank. There, he had had responsibility for managing $14 billion across a range of asset classes and was part of a team managing $70 billion for the World Bank and external clients. A Spaniard universally known as Sindo, warmly remembered by former World Bank colleagues, he has been politely declining Euromoney’s interview requests ever since.

Having hired Oliveros, KAUST them allowed him to stay right where he was. KAUST IMC’s HQ is not on campus, or in Jeddah, or even Riyadh or Dubai, but in Arlington, Virginia, a suburb of Washington DC. While this represented something of an arm’s length leap of faith, it was logical to argue that Washington was a far better place from which to assess global investment opportunities than Saudi Arabia. Both Mercer and Cambridge are understood to have been involved at various times in advice around governance, asset allocation and manager selection.

In any event, KAUST has impressed those who have dealt with it. “It is an extremely professional, low-profile organisation, set up and structured in exactly the right way,” says one fund manager. “There is arguably a contrast to the Qataris in that it was well thought through. The money was raised, there was no leverage involved, it was set up by the Aramco team, who are great, and then it is run professionally from America.” He says their operation and allocation is similar to the renowned US endowments. As in those institutions, private equity is understood to be key.

Another manager says that in order to win mandates, it is crucial to have a relationship not just with Oliveros and his team in DC, but the Saudis at KAUST itself. “We make sure we deal we speak to the organisation at both ends of the line,” says another manager. That’s important.” Others report it to be less active than they had hoped. “After an initial fanfare it seems to have gone fairly quiet.”

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Saudi Arabia is not the only place seeking to build a legacy in education. The same process is well underway in Qatar, where an entire education city is being built on a 14 square kilometre site on the outskirts of Doha. It has already attracted a remarkable range of the biggest names in education: Carnegie Mellon, Weill Cornell, Texas A&M, Georgetown, UCL and HEC Paris are among the western institutions to have set up branch campuses here. “They have brought faculties in to Qatar,” says Rod Ringrow at State Street. “Partly it is to increase opportunities, but also importantly to allow women to go to university: to get a world class education without having to leave home, which can be a big issue for some of them.”

Education City is backed by the Qatar Foundation, an institution that, while less well known internationally, predates the Qatar Investment Authority itself. Qatari lore has it that the country’s Emir had the idea for the foundation while sitting under a tent at Umm Orabya farm with his wife, Sheikha Moza bint Nasser, in 1995, and the foundation was formally launched that August as the Qatar Foundation for Education, Science and Community Development. It is part of the broader ambition to diversify Qatar away from its natural gas reserves and to create a knowledge-based economy, something spelt out in the National Vision 2030, which was published in 2008. Indeed, the National Vision gave clarity to the foundation’s mandate, which the foundation itself describes as “to be the engine driving the development of Qatar’s people.”

For most of its history it has done this at a rather anonymous level, but in late 2010 an endowment was launched and giving a separate legal form from the foundation itself to fund it in perpetuity. In its one public statement to date the endowment is described as “a long-term global investor with a broad mandate to make direct and managed investments.”

Under acting chief executive Rashid Al-Naimi, an Indiana State University-educated man who came up through the energy company RasGas, a strong international investment team is being developed. Carl Bang, who had been the CEO for State Street Global Advisors in France, is the CIO, and Stefan Cowell, who had worked at the Abu Dhabi Retirements and Benefits Fund, is head of asset management.

For a while, all people knew of the foundation’s investments was that it held half of the Vodafone Qatar venture. But the endowment came into the spotlight when Qatar Foundation paid $1.26 billion for a 5% stake in Bharti Airtel in May. This appears to have been the first public reference to the endowment as a distinct investing entity.

So what will it look like? Some are hopeful that, given the personnel, it will follow the KAUST approach to resemble western endowments, active across a range of asset classes and allocating to external managers. Others think it will be a lot like the QIA: mainly making opportunistic direct investments, without a clear strategy in mind, and with little use for external advice except perhaps for co-investment.

“The discipline and process and continuous hard work of setting up an institutional quality investment approach have so far escaped the Qataris,” says Hansen-Luke. “Frustratingly for the rest of the world, they’ve made huge amounts of money with their opportunistic, ad hoc approach. The rest of the world would love to prove them wrong, but so far the Qataris have said: we’re doing rather well, thankyou.” This would suggest that the direct action approach, having apparently worked for the QIA, will also be the modus operandi at the endowment.

It’s clear that telecoms is an early priority, and Al-Naimi did make one comment on the Bharti deal, saying: “As a long-term global investor, our shareholding gives us exposure to a high growth sector in key emerging markets.” Someone close to the endowment says it does not have a set quota for particular sectors or assets, and that its mandate allows it to make both direct and managed investments globally. It is a not-for-profit enterprise.

Beyond those three are a host of other state institutions emerging beyond the sovereign wealth funds, but with a mandate to invest in some sense on behalf of the state. In Qatar, one could point to Qatar Petroleum’s international investment arm, QPI, and its 51% subsidiary Industries Qatar; or Qatar Luxury Group, chaired by Sheikha Moza alongside former LVMH leader Gregor Couillard as CEO; or Qatar Sports Investment, through which the Qatari stake in Paris St Germain is held. In Saudi Arabia, one could look at the King Abdullah City for Atomic and Renewable Energy, which includes a plan for a sustainable city near Riyadh, and for which an endowment fund is rumoured; or the Saudi initiative to make investments in food abroad, in order to give the state some sense of food security.

What all this means for international advisors is as yet unclear. “It goes back to contestable assets,” says Tolchard. “There could be opportunities, but it’s a question of how money is being invested and what the objectives will be. If the money is going to be invested in-country, quite often the opportunity for asset managers will be around private equity, and this will include co-investment as well as via funds.”

And if the problems of knowing who to deal with were significant when there were just the big sovereign wealth funds, it becomes trickier still with a proliferation of state entities. “We’re on a learning curve,” says one manager. “It’s not as easy for asset managers to know who they need to be talking to at these organisations as it is at the established sovereign funds.

“The other big question is more political: whether an investment decision is going to be taken by the western-educated CIO or will be pushed up the line. The balance between investment-led and government-led investment decisions is an unknown quantity for us at the moment.”