Sovereign Wealth Funds Taste Bitter Losses

Not long ago the Western world was obsessed with sovereign wealth funds, those fast-growing pools of nationally owned assets fueled by oil money and trade surpluses. The fear was that they and their sometimes controversial owners would gobble up vast troves of trophy assets in the U.S. and elsewhere. But, after a brutal fall in the markets, that threat suddenly looks a lot less real. While the funds are cagey about saying what they actually own—and what they have lost—it's certain that they, like many other investors, have suffered big hits to their portfolios. They also have clearly lost firepower—and possibly some of their appetite for acquisitions.

One fund that does disclose its performance, Norway's $300 billion Government Pension Fund-Global, reported a negative 7.7% return against an international currency basket in the third quarter through September. That was the worst performance in the 18-year history of the fund, which invests Norway's oil revenues. And it doesn't include the likely further drubbings in October and November.

Stephen Jen, an economist at Morgan Stanley (MS) in London, estimates that the world's sovereign wealth funds have seen declines in their holdings of 18% to 25% for this year. He thinks the total losses are somewhere between $500 billion and $700 billion, bringing the funds' total value down to between $2.3 trillion and $2.5 trillion. Jen thinks these losses will make waves. "You don't lose 25% of your assets without consequences," he says.

Invest at Home, not Overseas

The reverberations will undoubtedly include closer scrutiny by the funds' boards over how they have been managing their assets. Coupled with other financial problems such as steep drops in local stock markets and the possible need for bailouts of local companies and banks, at least some of the funds have come under pressure to use their assets more for domestic purposes than for foreign investment. "The average Kuwaiti or Abu Dhabian can't get a mortgage or a car loan [because of the credit squeeze]. They wonder why [the funds] are bailing out the Citigroups of this world," says one banker in the Persian Gulf region.

Already the Kuwait Investment Authority (KIA), the country's stash for future generations, is being asked by the Kuwaiti government to pump money into the local stock market, which has fallen sharply along with others around the world. Angry local investors have protested their fate, calling for the government to do something to bail them out. One group of investors even succeeded in persuading a court to halt trading temporarily on the Kuwait exchange.

Indeed, losses look to have been particularly steep in the Persian Gulf region, where oil and money are pretty much the sum total of the assets held by the various states in the area. Analysts think that paper losses may have been particularly large at the Abu Dhabi Investment Authority (ADIA), which is considered the world's largest sovereign wealth fund. Some analysts think ADIA has about $450 billion under management, but others say it could have more than double that amount.

While ADIA won't disclose its total assets or precise allocations, officials at the fund, which is a sophisticated investor knowledgeable about the whole gamut of asset classes, earlier this year provided visiting BusinessWeek reporters with documents showing that the fund's benchmarks called for having 55% to 71% of its portfolio invested in equities and a further 12% to 28% in so-called alternatives: real estate, hedge funds, and private equity. Brad Setser, a geoeconomics fellow at the Council on Foreign Relations in New York who pegs ADIA's total holdings at the low end, figures the fund has notched around $150 billion in losses.

Inside the Abu Dhabi Investment Authority