2010 NTU International Conference on Finance

1. 2010 NTU International Conference on Finance Academic Session 6: FINANCIAL INSTITIONS NTU Archimedes Room December 11, 2010

2. QUIET LEVIATHANS: SOVEREIGN WEALTH FUND INVESTMENT, PASSIVITY, AND THE VALUE OF THE FIRM Bernardo Bortolotti Università di Torino Fondazione Eni Enrico Mattei Veljko Fotak University of Oklahoma Fondazione Eni Enrico Mattei William Megginson University of Oklahoma Privatization Barometer William Miracky Monitor Group

3. Sovereign Wealth Funds Defined • Term was coined only recently (Razanov, 2005) • First SWF: Kuwait Investment Authority, 1953 • Can Be Defined Broadly, As In Truman (2008): “Aseparate pool of government-owned or -controlled financial assets that includes international assets.” • We Define SWF more narrowly as: • An investment fund, not an operating company, • Wholly owned by a sovereign government, but separated from central bank or finance ministry, • That makes international and domestic investments in a variety of risky assets, • Is charged with seeking a commercial return, and • Which is wealth fund rather than a pension fund.

4. List of SWFs Included in this Study • 33 funds meet our definition • Total value approximately USD 2.4 trillion • Two thirds of the total value from OIL • Two thirds of the funds have been established since 2000

5. Reasons for Concern About SWFs, Responses By Governments & Funds • Large (Estimated up to USD 3.9 trillion, but our numbers are lower). • Growing Fast (Estimates vary between USD 7 and USD 15 trillion By 2015 – but now somehow scaled down). • Biggest Funds Based In Non-Democratic Nations • Most Cited Concerns: • Could be used for political purposes • Might induce volatility in financial markets • Could have a detrimental impact on governance • Regulators, SWFs respondedTo Concerns • Santiago Principles signed October 2008 • Market Meltdown Hit SWFs Very Hard • Not as long-term, stable investors as previously thought

6. SWF Geography

7. Evidence Of Recent Interest • The Financial Times website (www.ft.com) lists 3,097 references to “sovereign wealth funds”, all since May 19, 2007. • The SWF Radar, a website monitoring coverage of SWFs, links some 3,000 articles in English-speaking media between October 2007 and November 2008. • Our research papers, posted on SSRN since March 27, 2008, have been downloaded 2972 times. • In popular press, tones have most often been negative. Regulators have so far acted accordingly.

8. The Economist January 19-25, 2008

9. Little Published Research On SWF Effects, Intentions, Behavior • Most Available Work Non-Academic, Descriptive: • Monitor Group, Merrill Lynch, Deutsche Bank, SWF Institute, Peterson Institute, McKinsey Group • JACF: Butt, Shivdasani, Stendevad, Wyman (2008) • Several Competing Working Papers, Publications • Dewenter, Han, Malatesta (JFE 2010); Fernandes (2009); Kotter & Lel (forth JFE); Knill, Lee, Mauck (2009); Chhaochhria & Laeven (IMF, 2008); • Study of Cross-Border State Equity Purchases • Karolyi & Liao (2010): SWFs fairly poor investors

10. Main Question What impact do SWFs have on publicly traded companies in which they invest? • Long-term event study analysis • Additional evidence from analysis of long-term operating performance. • Cross-sectional regression to test which of our competing hypothesis best explains the long-term impact.

11. Our Empirical Research • We Collect And Describe SWF Investment Data • investment size, financing methods, etc. • Market Reaction To Investment Announcement? • Test abnormal return around announcement dates • Long-Run Returns On SWF Investments? • Do SWFs create or decrease target firm value? • Regression Analysis Of Long-Run Returns • Why the long-term underperformance? • Analyze changes in Operating Performance

12. Competing Hypotheses • Active Monitoring • Some blockholders provide active monitoring (Brav, Jing, Partnoy & Thomas 2008; Ferreira & Matos 2008; Ferreira, Massa & Matos, 2008; Klein & Zur, 2009). • SWFs are large, long-term institutional investors, often buying large shareholding. • Reduced Financial Constraints • Financial constraints can prevent companies from making positive-NPV investments (Stein, 2003; Campello, Graham and Harvey, 2010).

13. Competing Hypotheses • Political Interference • Governments could impose political/social goals not consistent with shareholder value maximization. • Constrained Foreign State Investor • SWFs rarely challenge incumbent managers (IRRC/Riskmetrics, 2009). • No credible threat of exit. • Passivity leads to a monitoring gap. • Stock Picking • SWF management might lack experience, incentives.

14. Testable Predictions

15. The FEEM-Monitor SWF Database Compiled From Three Sources • Monitor Group Dataset of Publicly Announced Deals • 1340 observations, worth $260.6 billion • Bureau Van Dyck Zephyr Database of Global Mergers & Acquisitions • 230 equity acquisitions, worth $71.8 bn • Thomson Reuters SDC Platinum Global New Issues Database • 239 equity issues, worth $84.1 billion • Net Out 71 Overlapping Observations and Verify Key Data Yields Final Sample

16. Norway’s GPFG data • Buys small stakes, through Norges Bank (NBIM) • We use Forms 13F to track US investments • Available on a quarterly basis • NBIM first appears in 2006 • Filing date = announcement date • Report date = completed date • Not only US-based companies, but the majority are • We find 160 initial investments • And 243 follow-on investments

17. Industrial Distribution Of SWF Investments

18. Overall And Average Investment Size And Stake Purchased

19. SWF Home Country And Investment Patterns

20. Percent Of Investments In Domestic Versus Foreign Deals, 2000-2008

21. What Kind of Firms do SWFs Invest in?

22. Target Firm Stock Returns Prior to SWF Investment Announcements

23. Target Firm Stock Returns Around SWF Investment Announcements

24. Target Firm Stock Returns After SWF Investment Announcements

25. Target Firm Stock Returns After SWF Investment Announcements, no Norway

26. Cross-Sectional Regressions • Results rule out the two hypotheses predicting positive abnormal returns • - Active Monitoring • Reduced Financial Constraints • Transaction and fund characteristics matter, hence we rule out also the Stock Picking hypothesis. • Overall, results offer strong support for the Constrained Foreign State Investor hypothesis (and mild support for Political Interference).

27. Analysis of Operating Performance

28. Analysis of Operating Performance

29. Summary Of Findings And Conclusions • Describe Patterns And Performance Of Public-Equity Investments Made By 33 SWFs, May 1985 to Nov 09. • A total of 802 transactions, for a value of USD 182 Bn. • Most investments in USA and, in general, in OECD countries. • Most investments are foreign. • Tend to prefer large, profitable firms.

30. Summary Of Findings And Conclusions • Positive market reaction to the news of a SWF investment (around 1%, 2% if we exclude Norway). • Over long term (3 yrs) SWF investments underperform. • Trying to explain apparent inefficient market reaction • Hertzel, Lemmon, Link, Rees (2002) private placements • The underperformance is worst for foreign targets, large stakes, BOD seats • Explanation SWFs are Constrained Foreign Investors. • Strong regulatory implications – SWFs should be ‘unshackled’, not subject to further regulation.

31. Thank You William L. Megginson wmegginson@ou.edu http://faculty-staff.ou.edu/M/William.L.Megginson-1/