I remember the last time the FTSE 100 was hovering not far off the 7,000 level, back in 2007.
People were a little jittery. But at the same time, they still couldn’t work out where any crash would come from. Sub-prime was ‘contained’, after all.
And back then, there was a ‘wall of money’ waiting to wash all over the stockmarket. This ‘wall of money’ was contained in near-legendary sovereign wealth funds (SWFs) around the world.
Despite the 2008 crash, SWFs have continued to grow. And they’ve had a lot of money to spend on accumulating financial assets.
But this is one particular ‘wall of money’ that could be about to turn into a whirlpool – sucking money out of the markets, rather than putting it back in…
Fat cows, thin cows, and sovereign wealth funds
There was an interesting long piece in the FT yesterday looking at the future for SWFs.
An SWF is basically a national piggy bank. As a country, if you own piles of natural resources, you might feel blessed – but you have to be careful. Resources are very cyclical. The biblical parable about Joseph’s dream about the seven fat cows and the seven thin ones was made for commodity-rich nations.
So you might have a good old-fashioned resources boom. Money comes flooding in to your country. If you’re unlucky enough to live in a kleptocracy, then corrupt bureaucrats will cream off as much as they can, and spend the rest on bribes and ‘bread and circuses’. When the inevitable downturn comes, they’ll be on the first flight out of the country to the tax haven of their choice.
What’s the answer? An SWF isn’t the whole solution, but it helps. An SWF is like the grain store in the parable. You stash the cash during the years of plenty – rather than spending like it’s going out of fashion – and then when the downturn comes, your economy can cope.
During the resources boom, we grew used to the idea of SWFs prowling the world looking for investment opportunities and snatching them up. It’s one reason the Qataris own so much of central London, for example.
But here’s what’s most interesting about them right now: with the crash in oil prices looking prolonged, we may be coming to the years of famine, as far as SWFs are concerned. And that’s likely to have at least some impact on markets.
The end of SWF recycling
As the FT points out, the SWF sector has $7.1trn in assets under management. That makes it a big player in global markets.
To get an idea of how big, look at Norway’s SWF. This $850bn fund owns more than 1% of the world’s total equity market capitalisation. That’s quite incredible. Perhaps even more incredible (given the sheer size of the market) is that it also owns near enough 1% of global bond markets.
However, of that $7.1trn, about $4.3trn comes from oil and gas. So the collapse of oil prices is a bit of a problem for the SWFs. The Norwegian one was founded in 1990. Yet this year might conceivably be the first time on record that more money has flowed out of the SWF than has gone into it.
And various other oil-related SWFs (particularly in Russia) have already seen money being sucked out as revenue-starved governments delve into the piggy bank.
It’s all somewhat ironic. Arguably, low interest rates and quantitative easing (QE) helped to drive up the price of oil in the first place – partly because investors were forced to seek ever-more exotic places to put their money. High prices, along with the easy availability of money to spend on drilling in ever-more exotic places, combined to boost oil production dramatically.
You then have this money being recycled into SWFs. Which are then, of course, hunting wildly for yield and decent long-term investments. And contributing a great deal to driving up prices of financial assets everywhere.
The ‘Great Wall of Money’
That’s going into reverse now. Even if SWFs don’t actually start selling assets, their asset allocation might change, and they certainly won’t be buying as much stuff.
Of course, no one is especially worried as yet about the idea that this particular wall of money is no longer going to be out there. After all, there’s still the ‘Great Wall of Money’ – central banks and their ability to print money at will.
But with asset prices looking overvalued as it is, and investors jittery about potential rate rises in the US, or a slowdown in the global economy, it’s just one more straw that could eventually break the camel’s back.
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