Gulf funds riding oil wave to riskier investments: Moody’s

High oil prices and poor returns on safe assets have pushed the GCC’s huge sovereign wealth funds into riskier investments in recent years, a report from Moody’s Investors Service says.

Moody’s doesn’t attempt to quantify the shift, but even minor changes in strategy by Gulf funds are carefully watched given their hefty sway in global financial markets. The Abu Dhabi Investment Authority, which Moody’s estimates to hold $397 billion of assets, slightly lowered its target allocation to developed markets in an annual review in May. It also reinforced its commitment to emerging markets, which some analysts say signaled a growing taste for risk.

“Over the past few years, several SWFs have modified their allocations to favor riskier investments,” the Moody’s report says, adding that the riskier plays “include direct investments and a shift from developed to emerging markets.”

The reasons for the change, Moody’s says, are threefold. First, funds usually serve as savings vehicles that governments can draw upon in case of need. But with lots of new money flowing in from sustained high oil prices, there’s less concern about staying in safer and more liquid investments. Second, returns on those safer investments – U.S. Treasuries, for example – are poor. And third, the risk of an oil-price shock appears to be remote.

Rachel Ziemba, the director of global emerging markets at Roubini Global Economics, agreed that risk appetites were gradually growing, although she also noted that some of the funds have still opportunistically snapped up cheap and distressed developed-market assets.

Longer-term, though, it’s not perfectly clear whether the risk-taking trend will continue. Mindful of Arab Spring unrest elsewhere in the region, GCC governments have dramatically increased public spending, which in turn will mean less savings for the funds to invest. Funds that don’t get regular transfers as part of government budgeting look most likely to be affected by higher spending, Ms. Ziemba said.

“Going forward, domestic spending increases and smaller surpluses suggest there will be less new capital going into these funds, which could change their asset allocation,” she said. “This is particularly true for funds without a dedicated revenue stream from the budget, who must rely on one-off transfers.”

For now, at least, Gulf funds are still surfing on an enormous wave of oil revenues. The funds had an estimated $1.6 trillion of assets at the end of last year, Moody’s estimates, up from $980 billion in 2007. Middle East Real Time, WSJ