Role of Sovereign Wealth Funds changing due to COVID-19 pandemic

Sovereign Wealth Funds (SWFs) have embraced an active role in economies and sustainable investments by increasing investment and deepening relations with the private capital industry.

This is according to the Sovereign Wealth Funds in Motion report, published by alternative assets data provider Preqin, in partnership with global law firm Baker McKenzie.

The prominence of SWFs in the global financial system is rising, as their sheer size enables them to take outsized or countercyclical positions across individual assets and asset classes.

What is the role of Sovereign Wealth Funds?

SWFs boasted Assets Under Management (AUM) of $7.84tn by end of 2020, roughly 7% of global AUM of $111.2tn, with the AUM having grown annually at 8% since the end of 2011.

With economies suffering unprecedented slumps due to COVID-19, SWFs are tools of reconstruction, with many investing domestically to deliver large-scale infrastructure projects, domestic regeneration, and encourage development of particular sectors.

James Burdett, Partner at Baker McKenzie and co-lead of Global Sovereigns Group said “Sovereign Wealth Funds are some of the most well-capitalized institutional investors globally.”

“But beyond the money they have a certain character, which is different from any other institutional investor. They can take a longer view and historically have allocated more to illiquid assets than their private counterparts, which has served them well.”

Alternative investment funds are one way Sovereign Wealth Funds can play a part in the reconstruction and recovery efforts.

SWF investments in private equity, real estate, infrastructure and private debt funds as well as hedge funds have grown substantially over the past decade, with cumulative SWF allocations to alternative asset classes now more than $700bn.

There have been increases in target allocations to private equity, real estate, and infrastructure – their combined median targets were 18% back in 2011 and grew to a weighty 30% in 2020.

What assets do Sovereign Wealth Funds invest in?

Private equity is the most popular asset class for Sovereign Wealth Funds, with a median allocation of 9.3%, followed by real estate at 6.7%. The report also found that there has been a growing momentum across Sovereign Wealth Funds to a more sustainable investment future.

This has been propelled by a combination of internal initiatives and stakeholder pressure from within the funds and a variety of recent national and international regulatory developments.

19% of the 98 Sovereign Wealth Funds tracked by Preqin have a formal ESG policy at present.

Generally, it is the larger funds that are committed to ESG, with $4.24tn (54%) of the $7.84tn in AUM of Sovereign Wealth Funds managed by funds that have stated policies.

David Lowery, Head of Research Insights at Preqin said “Economies are working their way through the COVID-19 recovery phase.”

“ESG is the means to focus on returns while delivering positive outcomes. And while many SWFs may be late adopters, they are keen to drive future prosperity and are catching up fast.”

Additional key highlights of the Sovereign Wealth Funds in Motion report include:

  • Sovereign Wealth Funds are increasing their allocations to alternatives. Cumulative SWF allocations to private capital now exceed $700bn.
  • SWFs’ cumulative allocations to hedge funds have fallen from 34% in 2016 to 11% in 2020, though may rebound given strong performance in 2020 and 2021 YTD.
  • Median target allocations to private equity, infrastructure and real estate have risen from 18% in 2010 to 30% in 2020.

Europe is the clear leader on ESG across alternatives as a whole, driven by EU-wide regulations.

  • 80% of private capital AUM in Europe is managed under ESG commitment, compared with 47% in North America, 39% in the Middle East, and just 24% in Asia.
  • The largest SWF in terms of both total AUM and ESG-committed AUM is Norway’s Government Pension Fund Global (GPFG), which accounts for $1.1tn of the $7.84tn currently managed by all SWFs globally