Dubai: Despite a sharp decline in oil prices over the last year and a potential contraction in funding in the event oil prices continue declining over the next two years, most Middle Eastern sovereign funds remain focused on their investment strategies and objectives, according to according to Invesco’s Global Sovereign Asset Management Study.
The study revealed that Middle Eastern sovereign investors exhibited higher resilience to fund withdrawal risks due to low oil prices and domestic economic compulsions.
According to the study, in terms of investment objectives, Middle Eastern investors have the highest return objective and the longest investment horizons — making their investment strategies more resilient to the changing funding environment.
Continuing the trend from last year, regional sovereign investors are expected to increase their asset allocation to emerging markets and alternatives. A study of the Middle Eastern sovereign investors by Invesco last year had shown that they planned to increase exposure to emerging market assets, real estate and private equity.
Overall the Middle East sovereigns remain more confident for the future, scoring higher for their ability to deliver long-term performance compared to the global average.
Short-term reversal
“[The] Middle East region placed the highest importance on investment objectives, overtaking western sovereigns. Similarly, Middle East sovereigns had the highest average target returns and the longest time horizons at an average of 7.8 years,” said Nick Tolchard, chair of Invesco’s Global Sovereign Group & head of Invesco Middle East
In the survey, some respondents expressed concern that the fall in oil price may result in a short-term reversal to more conservative investment strategies and defer the implementation of more progressive long-term allocation trends towards alternatives. Despite this, it remains clear that sovereign investors feel they are in a much stronger position to deal with the impact of falling oil prices this year than they would have been in 2008.
“Sovereign investors are certainly better placed now than they were [before] the 2008 global financial crisis, with various improvements including greater recognition of liquidity objectives across the board, a better risk management and governance framework to cope with these scenarios, improved management information on liquidity and an understanding of how best to liquidate assets,” Tolchard said.
In the current environment, sovereign investors remain hungry for returns and are developing their long-term investment strategies accordingly — including looking increasingly at alternatives.
Significant link
Previous Invesco studies have reported strong sovereign investor asset allocation preferences towards alternatives; a trend that is expected to continue in 2015. However, 2015 findings highlight a significant link between asset classes and region — and specifically the affinity of emerging markets to infrastructure investment, and of developed markets to real estate.
Currently total sovereign portfolios are overweight to emerging market infrastructure (17 per cent), relative to emerging markets generally (9 per cent), while total sovereign portfolios are overweight to developed market real estate (73 per cent) compared to developed markets generally (56 per cent).
Conforming to global trends, the Middle Eastern sovereign investors too are keen investors in emerging market infrastructure. The attractiveness of emerging market infrastructure is driven by the perception that it is a low-risk entry into emerging markets.
Currently many Middle Eastern sovereign investors are active in the infrastructure sector in Africa and parts of Asia.
Emerging market investments are generally perceived as riskier due to risks associated with political instability, corruption, regulation and a lack of legal protection.
Infrastructure is perceived as reducing all of these risks to some extent, because in general they are mitigated by government support.
In addition, the supply and demand dynamics in emerging markets are more attractive to sovereigns than both developed market infrastructure and different classes of emerging market alternative investments. The competition to access investments is far greater in developed market infrastructure, and in some cases (most notably in the US) the tax regime was far less attractive to international investors.
Sourcing deals a major challenge
For both infrastructure and real estate investments, the biggest challenge for sovereign investors is sourcing deals. This is hardest in infrastructure, and as a result, the study shows accelerated growth in collaboration between sovereign investors to source these deals.
Each sovereign in the study with an allocation of greater than 5 per cent to alternatives already had on average 2.7 active sovereign collaborations, and all expected to increase these over time.
“The trend in sovereign collaboration was observed in our 2014 findings. However, in 2015 this collaboration appears to be taken further by certain sovereigns who are developing infrastructure propositions specifically to target other sovereigns. Many sovereigns whom we surveyed felt this to be a logical evolution, since those that are established are best placed to help emerging sovereigns enter new alternative asset classes,” Tolchard said.
