A Closer Look at Sovereign Wealth Funds

For many observers, the biggest concern today is not the potential for political shenanigans but uncertainty about how sovereign funds might affect the financial markets. In an article this fall in Finance & Development, a quarterly publication of the International Monetary Fund, IMF research director Simon Johnson noted that: "Unfortunately, there's a lot we don't know about sovereign funds. Very few of them publish information about their assets, liabilities or investment strategies."

If the funds emphasize a buy-and-hold strategy, as is widely thought, they help stabilize markets, he said. At the same time, he cited some anecdotal evidence of sovereign funds investing in other funds, such as hedge funds, that multiply their impact through borrowing. Leveraging can destabilize markets when bets go wrong.

The global value of traded securities is about $165 trillion, so $3 trillion in sovereign funds is not yet a major concern, he wrote. But if the figure rises to $10 trillion, and if many funds do employ leverage, the funds will bear watching, he added.

The Peterson Institute's Truman advocates "a quantum increase in transparency and accountability" for sovereign funds. At a minimum, he says, the funds should publish annual reports detailing investment strategies and holdings. This fall, the U.S. Treasury Department called on the IMF and World Bank to develop a "best practices" guideline for sovereign funds.

Allen, Herring and Marston agree that greater transparency would be good. But Herring notes that such requirements would not be easy to impose: "It's hard to see how you get compliance with so-called 'voluntary' guidelines when the people who are making the investment decisions are really not involved in putting together the guidelines."