Overview – Third Quarter 2013

November 13, 2013

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So far this year, sovereign wealth funds’ foreign direct investment activity is heading toward an historic low. In the third quarter of 2013 the funds’ direct deal volume plunged to its lowest level since the second quarter of 2006, when there were 12 fewer sovereign funds and many of them had more-conservative investment portfolios.

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Sovereign Wealth Fund Foreign Direct Investment, 2006–’13

Source: Institutional Investor’s Sovereign Wealth Center.

In the third quarter sovereign wealth funds completed 21 direct deals with a total value of $2.5 billion, one third of the volume during the same period in 2012, when they completed 42 deals valued at a total $7.5 billion. The decline in direct investment from July 1 through September 30 mirrors the number of global mergers and acquisitions, which fell by 16 percent year-on-year, according to Dealogic.

This correlation suggests that sovereign wealth funds are continuing to struggle to find major direct investment opportunities. The funds no longer have the significant competitive advantage they enjoyed at the height of the financial crisis, and other market players are vying with them for deals.

The sovereign wealth fund investment activity that we captured in the third quarter reflects the challenging deal-making environment. The only acquisitions whose values exceeded $100 million involved infrastructure and real estate assets. Sovereign funds allocated a total of $2.2 billion to these two sectors — almost 90 percent of their overall direct investment during the third quarter. Such investments were mostly concentrated in developed markets, but funds are slowly starting to explore new opportunities in larger emerging economies such as China and India.

Sovereign Wealth Fund Foreign Direct Investment by Industry, Q3 2013

Source: Institutional Investor’s Sovereign Wealth Center.

Beyond infrastructure and real estate, sovereign wealth funds favored financial services firms (seven deals, worth a combined $163 million) and technology companies (three deals totaling $110 million). In financial services they preferred companies with a focus on flourishing emerging markets. However, the largest single financial services investment was made in a developed market: Norway’s Government Pension Fund Global bought £48.8 million ($77.6 million) worth of stock in London-based Lloyds Banking Group when the British government’s investment holding arm, UK Financial Investments, unloaded 6 percent of its stake on September 16, 2013. This acquisition took the Norwegian fund’s total shareholding in Lloyds to 1.8 percent.

As direct deal flow ebbed in the third quarter, the number of allocations to external asset managers appeared to rise, bucking the trend we have observed since 2009 toward greater internalized investment management among sovereign wealth funds. We captured 23 allocations to third-party managers during the quarter, worth a total of $3 billion. On the whole, sovereign wealth funds tended to commit to specialized asset management sectors such as venture capital, commodities and emerging-market real estate.

However, major private equity firms are still drawing sovereign wealth fund investment. London-based CVC Capital Partners closed its sixth fund in July, having raised €10.5 billion ($14 billion) from investors that included three sovereign wealth funds.

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