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Oil Price Drop Hitting Sovereign Funds: Invesco Study

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A study released Monday by Invesco shows that North American sovereign wealth funds have been hardest hit by the steep drop in energy prices.

While sovereign funds in the U.S. and Canada were set up thanks to state surpluses in commodity-rich regions, “the timing of the fall in the oil price has been particularly challenging for state governments” in North America, the report says.

In fact, 80% of North American sovereign investors expect funding to be reduced vs. 42% for oil-funded sovereigns in the rest of the world.

Still, North American sovereigns indicate that they are confident their assets are protected from the government. In contract, 67% of sovereigns in countries outside North America with a high dependency on oil expect withdrawals if oil prices remain below U.S. $40 per barrel for two years, according to the research. (Oil traded near $63 on Monday.)

Overall, sovereigns seem confident in their ability to manage the impact of withdrawals; they note they are “better placed to manage these challenges than before the financial crisis in 2008.”

(The survey results are based on the polling of nearly 60 professionals with sovereign wealth funds, government pension funds and central banks.) 

Other Trends

Due to infrastructure needs, these investments account for a higher proportion of emerging market allocations than in developed markets. Sovereigns say their biggest challenge in this field is sourcing deals.

In terms of overall executive, sovereigns want to build internal asset management capabilities. This process, though, can create internal divisions as groups struggle to deliver returns (or alpha).

“Established sovereigns are taking a more selective approach with plans to increase internal indexing strategies as well as external active management,” the report explained.

As for currency management, sovereigns anticipate exchange rates to remain volatile and currency management to increase in importance. “We expect more sovereigns to migrate to active strategies and more investment by sovereigns into defining their currency management strategy,” the Invesco experts stated.

Among central banks, there is a trend toward currency diversification into the high-yielding Australian and New Zealand currencies, as well as into the Chinese renminbi (RMB). Such themes are consistent with sovereigns’ “strong desire to increase risk asset exposure,” Invesco points out.

Central banks have allocated more than 80% of their portfolios to investment-grade fixed income or bank deposits. In addition, 45% of respondents expect equity allocations to increase this year.

— Check out EPA’s Fracking Study Bolsters Energy Industry, Undercuts Environmentalists on ThinkAdvisor.


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