Burnt sovereign funds shy away from West

Until recently, cash-strapped Western banks such as Citigroup have been able to turn to sovereign wealth funds (SWFs) for a helping hand-out. But now, many of these state-sponsored investment funds are pulling in their horns. So what's changed?

Worth an estimated $3,000bn at the start of the year, SWFs have been badly burned, losing around 25% of their value in 2008, says Morgan Stanley. That's in part down to plunging commodity prices, says Brad Setser, an economist at the Council for Foreign Relations in The National. In particular the oil price slipping 60% from a recent peak of $147 a barrel has sapped funding for the bigger SWFs based in the Gulf states. "If oil stays at its current levels, the future pace of their growth is likely to slow sharply," he says. The Middle East's seven biggest SWFs will lose another 15% of their value this year, according to a report from Samba Financial Group, with the governments of Bahrain, Qatar and Oman already destined to go into the red. That means they won't have spare cash to siphon off into SWFs.

But even if SWFs were cash rich, they wouldn't be spending it. That's because many funds are smarting from a succession of poor investment decisions and rueing the day they ever thought about diversifying into the West. For example, the China Investment Corporation (CIC), China's largest SWF, invested £2.1bn in the Blackstone group in May 2007, only to watch its stake fall 80% in value. Meanwhile, the Kuwait Investment Authority sank $3bn into Citigroup, then watched the share price tumble by two-thirds. "They are still shell-shocked about their losses in the public market," a fundraiser for one private-equity firm tells the FT. "They aren't exactly saying they were fleeced, but they know they went in early with Citi Group and Merrill Lynch and Morgan Stanley. They are licking their wounds."

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As a result, Lou Kiwei, head of CIC, said last week: "Right now we do not have the courage to invest in financial institutions because we do not know what problems they may have." It seems to be a case of once burnt, twice shy. "China can only save herself," he added. Indeed, with their home markets down by up to 50% in some cases this year, SWFs are starting to focus more of their firepower on rescuing domestic firms. Russia, for example, is already using money from its stabilisation funds to inject capital into the ailing banking sector, while the Kuwaiti Investment Authority is moving $4bn out of Western markets into its own. In short, the Eastern cavalry is heading home.