Sovereign funds cut exposure to weak dollar

By Henny Sender
Financial Times, London
Wednesday, July 16, 2008

http://www.ft.com/cms/s/0/fc250ac2-5361-11dd-8dd2-000077b07658.html

NEW YORK -- Some of the world's largest sovereign wealth funds are seeking to scale back their exposure to the US dollar in a sign of global concern about the currency.

One big sovereign fund in the Gulf has cut its dollar-denominated holdings from more than 80 per cent a year ago to less than 60 per cent, while China's State Administration of Foreign Exchange (SAFE) has been looking to strike deals with private equity firms in Europe as a part of a strategy to reduce its dollar holdings.

Sovereign wealth funds have played a leading role in helping to recapitalise faltering US banks, but have lost money so far on such investments. Continuing market turbulence has further shaken their faith in US policy and policymakers.

Kenneth Shen, head of the strategic and private equity group at Qatar Investment Authority, another Middle Eastern fund looking to do more deals in Europe than the US, aired such concerns publicly at a conference in Hong Kong late last year. "The outlook for the US dollar is a significant issue for investors contemplating US-related investments," Mr Shen said.

The shift at China's SAFE is significant because it holds the majority of the country's $1,600 billion in foreign currency reserves in dollar instruments and has lagged behind other governments, such as Singapore, in diversifying its currency exposure. SAFE has been holding talks with Europe-based private equity firms about putting billions of dollars into their latest funds, precisely because these funds are not dollar-denominated, say people familiar with the matter.

By allocating money to Europe-based private equity firms, SAFE could diversify away from the dollar, at least at the margin, without spooking the currency markets and driving the dollar down in a disorderly manner.

In addition, SAFE is encouraging the private equity firms with which it has relationships to make investments in natural resources companies in markets outside the US -- in part, to hedge its exposure to the dollar.

A spokesman for SAFE declined to comment.

Behind the scenes, fund officials are questioning the credibility of the Federal Reserve and US Treasury in defending the dollar and maintaining financial stability. Reacting to last year’s collapse of structured investment vehicles, the head of one Middle East fund said: "I thought the problem of off-balance sheet had gone away with Enron."

Kuwait last year ended its currency link to the dollar, raising questions about whether other oil-rich Gulf states with similar arrangements would follow.

The largest of the sovereign wealth funds, the Abu Dhabi Investment Authority, is still committed to the dollar. ADIA's subsidiaries make their investments without taking into account currency risks. A separate ADIA division then decides whether to hedge or not.

As long as the United Arab Emirates -- which includes Abu Dhabi -- pegs its currency to the dollar, a major departure from the current investment policy is unlikely. Moreover, ADIA staff say they worry that the euro may be at a peak against the dollar.

Still, dissatisfaction with the dollar peg is growing at the Abu Dhabi fund. "We are suffering. We are importing inflation for no reason," says one ADIA staffer.

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