Sovereign Wealth Funds Get Stronger

CAIRO, Egypt (AP) — The decision by the world's largest sovereign wealth fund to invest billions in struggling Citigroup has highlighted the growing economic power of Arab Gulf states, awash with money because of high oil prices.

U.S. officials have voiced concerns about such funds' secrecy in the past. But the injection of money by the Abu Dhabi Investment Authority could help stabilize Citigroup Inc., the United States' largest bank, as it struggles with billions in losses from America's mortgage crisis.

The tension illustrates the broader dilemma the U.S. faces in deciding how to deal with such sovereign funds: It relies on their capital inflows to bolster the U.S. economy, but some officials worry that foreign ownership of key U.S. companies could jeopardize national security.

“The investment emphasizes the complexity of the (sovereign fund) issue,” said Edwin Truman, a senior fellow at the U.S.-based Peterson Institute for International Economics. Some people, he noted, “want to define national security more broadly, to cover banks or financial institutions.”

Analysts said Abu Dhabi's minority investment appeared to be structured to produce the least possible backlash from politicians concerned about its strategic implications.

The issue is likely to grow: Merrill Lynch estimates the total assets managed by sovereign funds already may exceed $2 trillion — more than all the world's hedge funds combined — and could grow to $7.9 trillion by 2011.

The bank estimates the assets of the Abu Dhabi Investment Authority — a secretive government fund that is composed of the emirate's oil revenues and ultimately controlled by the city-state's ruler — alone could total $875 billion.

Washington has relied on the oil-rich Gulf countries, and China, to fund its growing budget deficits by purchasing vast amounts of U.S. Treasury securities, propping up the value of the ailing dollar.

Record oil prices, which have risen more than 60 percent this year, have swelled the coffers of Gulf countries like the United Arab Emirates. That has prompted them to look for other financial opportunities, like Abu Dhabi's planned $7.5 billion investment in Citigroup announced late Monday.

Morgan Stanley estimates the funds have spent $35 billion since the start of last year on stakes in financial organizations, with $26 billion coming in roughly the last six months.

Kenneth Rogoff, a Harvard University economics professor, said the latest investment in Citigroup could help improve the funds' image over time.

“The (Abu Dhabi) fund has a very professional reputation and will probably be a good shareholder and will cast sovereign funds in a good light. But that won't happen overnight,” he said.

Rogoff also warned that some people might view Abu Dhabi as buying Citigroup at a “firesale price.”

The bank's shares have lost about 45 percent of their value since the beginning of this year, wiping away $124 billion in market capitalization, as the drumbeat of bad news about its investment losses has mounted.

Abu Dhabi's investment in Citigroup, which was expected to close in the next several days, could help stabilize the bank, which has said it will likely write down the value of its portfolio by $8 billion to $11 billion in the fourth quarter because of the mortgage crisis.

In the third quarter, Citigroup's investments in subprime mortgages led to losses totaling about $6.5 billion, prompting the departure of the bank's chairman and chief executive officer, Charles Prince.

The Abu Dhabi investment also will help Citi reach its goal of returning to its target capital ratios in the first half of 2008, the bank said.

“We see in Citi a highly respected company with a premier brand and with tremendous opportunities for growth,” said the Investment Authority's managing director, Sheikh Ahmed Bin Zayed Al Nahayan when the deal was announced on Monday. “This investment reflects our confidence in Citi's potential to build shareholder value.”

Abu Dhabi's move recalls the early 1990s investment in Citigroup made by Saudi Prince Alwaleed bin Talal. After the bank made some losing bets on U.S. real estate and Latin America, Alwaleed bought a stake for less than $600 million that has since ballooned into billions.

Some analysts said Abu Dhabi appeared to have structured the deal to minimize political fallout. Citigroup characterized the investment as passive and said the fund will not be able to name any board members to the bank. Also, the eventual 4.9 percent ownership falls far short of a controlling stake.

Despite these steps, Truman predicted there will be concerns about the opacity of Abu Dhabi's fund.

He has devised a scorecard that rates 32 of the world's largest sovereign funds according to a number of criteria — including structure, governance, transparency, accountability and behavior — and said Abu Dhabi “came out near the bottom because we don't know very much about them.”

Analysts say Abu Dhabi appears to regularly purchase less than 5 percent of the companies it targets to avoid having to disclose the investments.

Rogoff believes the concerns about transparency are overblown, pointing out that hedge funds “are pretty opaque as well.”

“It's very hard to conjure up stories where sovereign wealth funds prove to be a disaster; minus investments in very sensitive national security industries, some sort of James Bond scenario,” he said.