More on sovereign wealth funds
Last month, Euromoney wrote in its cover story that, "with stock markets in Europe and the US tumbling, credit markets in dislocation and M&A activity drying up, the influence of sovereign wealth funds will become even more apparent".
Just how apparent was illustrated within days when sovereign funds in Asia and the Middle East helped to bail out Citi, Morgan Stanley and UBS through cash injections totalling a combined $22.5 billion. Just before Christmas, Merrill Lynch confirmed a $5 billion investment from Singapore’s Temasek.
These transactions will cause concern among those western politicians and other critics of sovereign wealth funds who are increasingly worried about foreign governments gaining powerful stakes in such an important national institution as a bank. Even some of the banks’ shareholders are raising their eyebrows. One UBS institutional investor has called on other shareholders to reject the SFr13 billion ($11.3 billion) offer from Singapore’s GIC and an unnamed Middle East investor, thought to include the Crown Prince of Saudi Arabia.
But critics need to appreciate the ability of these funds to take on risk when there are few other avenues of capital readily available. Given the state of their finances, where else could the banks turn to? To fragile capital markets? Both Citi and UBS have in recent weeks but have paid an exorbitant price. UBS issued a €600 million tier one bond in mid-December priced at midswaps plus 245 basis points. Citi paid 195bp over treasuries for $4 billion of 10-year money.
These capital injections suit the investment objectives of the funds too. They have plenty of money that needs to be put to work and what better way to do so than in the distressed European and US financial sector. Despite the extent of their credit write-downs, UBS and Citi still make for appealing investments, not least because of the growth potential of the Swiss firm’s wealth management division and the US bank’s emerging markets business. Morgan Stanley and Merrill Lynch remain two of the standout brands in investment banking.
Indeed, it would be a mistake to assume that the sovereign funds are investing in banks purely on an opportunistic basis. They have been big buyers of western financial companies for some time and invested more than $50 billion in the sector in 2007, although obviously valuations are now much more attractive.
The terms of the Citi deal show where the power lies. It is heavily biased towards Abu Dhabi Investment Authority (Adia), the sovereign fund that is injecting $7.5 billion. The 11% coupon that it is receiving for its investment through a mandatory convertible bond is eye-watering. That suggests two things. First, that Citi’s balance sheet was more badly impaired by the credit crisis than many observers originally thought. Second, that Adia knows how to negotiate a good bargain for itself, and that sovereign funds can be as hard-nosed as any private-sector investor.