Government funds reported buying gold to hedge dollar's decline

State Funds Look to Commodity Investment

By Javier Blas
Financial Times, London
Monday, November 12, 2007

http://www.ft.com/cms/s/0/285fe19c-9149-11dc-9590-0000779fd2ac.html?ncli...

State-owned sovereign wealth funds are beginning to diversify their investments into commodities, potentially having a significant impact on international raw material prices because of their immense resources.

Many SWFs draw their income mainly from raw materials, such as crude oil, and they are now seeking to reinvest this cash back into the commodities market.

According to commodities bankers, the total investment of SWFs in natural resources is still limited, at below 5 per cent of their total allocations. But with worldwide state reserves above $3,000 billion, according to Deutsche Bank, any movement into the relatively small commodities markets could influence prices.

"While macro-data on sovereign money is elusive, anecdotally we see meaningful flows into commodities from the Middle East, Europe and Asia," said Katherine Spector, head of energy strategy at JPMorgan in New York.

In many cases, she went on, sovereign funds had benefited from high commodity prices while helping to raise them by investing in commodity-linked indices.

However, bankers said that the shift was part of the nascent SWF diversification strategy rather than an attempt to increase their control over strategic raw materials.

"They want to use commodities, and particularly gold, as a hedge against the US dollar weakness," said a senior banker, who added that the investments were mainly coming from the Middle East and Asia.

The move into commodities and its potential impact on sensitive prices could exacerbate worries in Western countries about the political motivation behind SWF investments.

SWFs have been moving away from safe but low-return bonds, starting to invest in alternative assets, such as private equity, real estate, hedge funds, and, now, commodities.

"They want commodities exposure exactly for the same reason as other institutional investors -- diversification," said a banker at a large Wall Street institution.

Commodities protect against a rise in inflation, which lowers corporate earnings and thereby stock prices. Inflation typically also results in higher interest rates, which often leads to lower prices of government and corporate bonds.

Commodities provide the main source of income for more than half of the 25 largest sovereign wealth funds, including the Abu Dhabi Investment Authority, the world's largest SWF with about $875 billion in reserves, according to Morgan Stanley.

The oil price boom, the longest and strongest in a generation, is boosting the revenues of the members of the Organisation of the Petroleum Exporting Countries and other producers, such as Russia.

The oil cartel, which controls about 40 per cent of the world's oil output, is expected to earn about $658 billion this year, according to the US Department of Energy.

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