Sovereign Wealth Fund - Essay Example

The paper "Sovereign Wealth Fund" is a worthy example of an essay on finance and accounting. A sovereign wealth fund or SWF can be defined as an investment fund that is nationally owned and operated. An SWF is generally created by the government when it achieves budgetary surpluses and intends to utilize them for ensuring greater fiscal security in the future (Johnson 2007). However, there are several risks associated with SWF although various countries in the world have initiated new SWF products across the global financial markets.

What are the SWF do you know in this world?
There are various countries in this world that are operating SWF. The biggest players in this segment of world financial markets are China (National Social Security Fund, Government Pension Fund, etc.), USA (Alaska Permanent Fund, Permanent School Fund, etc.), Saudi Arabia (SAMA Foreign Holdings), etc. (Castelli and Scacciavillani 2012)
Russia’s National Wealth Fund appears to be an interesting case of SWF. Although it started off as a stabilization variety of SWF, it is known for investing in risky stakes. The National Wealth Fund appears to be somewhat protectionist. It supports the country’s pension system. Another example is the Qatar Investment Authority or QIA, which is Qatar’s SWF that primarily invests in international markets. QIA is funded with the help of export surpluses of the country, and many members of the Qatari royal family are actively involved in this fiscal program. (Castelli and Scacciavillani 2012)

Why some SWF is so risky?
An SWF comes with lots of assurances. General investors may find SWF to be an attractive investment destination since it is backed by the government. Apparently, an SWF must be associated with safer investment options since the government is directly involved and responsible. However, this is not a practical situation with most SWF products. “Many of them publish information about their assets, liabilities, or investment strategies” (Johnson 2007: paragraph 8).
Figure – 1: In the above statistics, it is shown that countries like China (CN), Russia (RU), etc. exercise relatively more regulations over FDI inflows. This hampers SWF transparency in these countries. (Kern et al 2007: exhibit 11)
Moreover, the SWF managing authorities may change their buying, holding, and funding strategies with the changes in ministries, cabinets, and governments. No short term buying or selling options are available in most of the SWF products of the world. Reluctance on the part of the government authorities toward declassifying information on most of the governmental expenditure creates worrisome opacity around the SWF (Kern et al 2007). So if an SWF is suddenly exhausted or incurs lots of fiscal loss, then the investors are completely surprised and almost no options for any subsequent monetary recovery are left.

How the government can reduce this risk?
Financial investment options are mostly controlled in an autonomous manner by the authorities of issuance. Even in the case of government-owned funds, the fund managers are sometimes left free to build risky portfolios (Johnson 2007). This means that the funds should be controlled by the investor’s choice and option, if necessary. Therefore, SWF with greater transparency will let the investor know about the product portfolio. That is way greater fiscal transparency must be ensured by the government for casting more investor accountability to the fund managers (Kern et al 2007). Furthermore, some SWF products are vulnerable to political interventions. For example, the Russian National Wealth Fund is prone to be interfered with and protected by FSB, which is one of the country’s most powerful security services (Kern et al 2007). This kind of interventionist financial policy is unwanted.

Conclusion
The SWF has the copious potential for capturing a large portion of the international financial markets. However, lack of transparency, political intervention, and hidden exposures to market vulnerabilities may make certain SWF products very risky. Therefore, Kern et al (2007:1) state that the governments must ensure “greater appreciation of the potential benefits of SWF commitments.” Such an approach would help in more realistic risk assessment as well as confidence generation. Read More