Oil prices & the impact on Sovereign Wealth Funds

By Masinessa “Omar” Khattaly

January 2016

The drop in oil prices in the last 12 months has taken markets and investors by surprise. State institutions such as Sovereign Wealth Funds (SWF) have been affected and state budgets have suffered. SWF will grow slowly and in many cases will see some of their assets declining in value or being liquidated to help with government budget deficits. State foreign exchange reserves will be affected as well.

There are over 77 SWF’s in existence with total assets of over $7.1 Trillion dollars, of which $4 trillion are oil and gas related funds. By the end of 2015, more than 56 percent of the assets of SWFs originated from the sale of oil and gas related products. These funds account for anywhere from 5-10% of total money invested in global markets.

In the past 6 months, investment managers have seen an increase in capital outflow back to these funds totaling over $19 billion in the last quarter of 2015, according to eVestment, the data provider. As oil prices continue to drop from a high of $120 a decade ago to below $30 in early January of 2016, many governments in the Gulf region, Africa and Asia are growing increasingly worried about the future of managing their budgets and meeting internal financial demands and domestic investment obligations. Libya and its Sovereign Wealth Fund will not be the exception.

Let us look at some numbers and data, to give the reader an idea of just how bad the situation is.

The Saudi Arabian Monetary Agency (SAMA), which is the kingdom’s investment arm has liquidated and withdrawn over $70 billion from external managers in the last 6 months to support its domestic spending and economy. Some analysts estimate the true number to be well over 100 billion. According to NASDAQ, it is estimated that SAMA has withdrawn over $1.3 billion from European equities.

According to official releases and statements by the Central bank of Kazakhstan, the government expected to withdraw $28.8 Billion dollars from its SWF in the next 3 years to cover oil related revenue losses. The country president Mr. Nursultan warned last year that his government’s budget revenue has fallen by 40 percent due to lower oil prices. Kazakhstan’s $64.2 billion SWF has fallen by almost 18 % in value and expected to be depleted within 10 years or less if oil prices stay at this level.

The Qatar Investment Authority (QIA) announced in October 2015 that it was selling its 10% shares in the German construction company Hochtief that is valued at $615 million. QIA also sold stakes in the French construction conglomerate Vinci and two London office buildings. QIA is also in talks to sell the film studio Miramax.

Qatar’s finance minister has reportedly said that his government will need to borrow $12.8 billion to cover the deficit on 2016 budget. Many government projects have been put on hold and lay offs have been made.
Norway, the world’s largest SWF has lost over $120 billion in value, from a high of $900 billion at the end of 2014 to a current $780 billion in value. According to Egil Matsen, deputy central governor in charge of oversight of the investor, Norway’s fund will not be selling off any of its assets to cover government revenue losses and budget deficit for 2016. Matsen seems very confident that his government will manage without having to access any of the fund’s money, which is designed for longer-term use.

Kuwait’s budget has seen a deficit in the first 5 months of its current fiscal year at $3.6 billion. The government of Kuwait has taken measures to cover this deficit by increasing corporate taxes on profits, increasing taxes on services and doing away with government subsidies. Despite running a deficit in 2016, the Kuwaiti government is still contributing to its SWF. It is adding 10 % of oil revenue to the fund instead of the legislated 25%.

Algeria will have a deficit of $23 billion for the 2016 budget. Oil accounts for over 60% of its revenue and many analysts predict that at some point the government will have to access its $50 billion Revenue Regulation Fund to meet its financial obligation. In the last 12 months, Algeria has had to access its foreign exchange reserve to meet its financial obligations. Its reserves have dropped from $178 billion at the end of 2014 to about $150 billion at the end of 2015.Algeria also experienced a drop in foreign exchange reserves of over 12%. Algeria is considering increases in taxes, import duties and the prices of subsidized fuel and electricity.
There are countless other worldwide examples of the impact the drop in oil price has caused. Chile’s state owned stabilization fund has fell to $14 billion from $15.5 billion in 2014. In addition, the foreign-exchange reserves of Azerbaijan have fallen to $7.3 billion from $16.5 billion in 2014, and Nigeria’s foreign-exchange reserves have dropped from $48 billion in 2013 to currently $28.7 billion.
These examples all show how the glut of oil has affected the economies of oil producing countries. Libya will not be immune from this. In fact, Libya will suffer the greatest impact for the following reasons:

  • Since 2011, Libya’s small economy has very much come to a halt. Its oil production has dropped from a high of 1.6 million bpd in 2010 to a current 362,000 bpd with some either of its export terminals damaged or under militia control.
  • Libya’s current political situation with two governments, a divided nation, a drop in currency value against the dollar and the Euro, high unemployment, a large government employment sector, a high cost subsidized food and fuel bill and a lack of alternative revenue options will make it very difficult for the central bank and the government to balance the budget.
  • In the past 4 years, the Libyan government has had to access its currency exchange reserves at a record pace to cover its large government payroll, which accounts for almost 30 percent of the population.
  • At this point Libya’s economy is in a mess and inflation is on the rise.
  • Now even if the political situation in Libya is resolved its economy will continue to suffer. With oil at below $30 and cost of production at around $23, I am afraid the Libyan government in order to meet its financial obligation to the people and the country will have no alternatives but to go through its currency reserves and to sell some assets from its SWF, the Libyan Investment Authority (LIA).
  • Development programs will have to be put on hold and the government will have to take serious and strong measures into cutting spending and making plans on how to get out of this mess.

Here is a sample of the experts’ opinions on how dropping oil prices will affect SWFs.

  • “If the current drop in oil prices persists it will affect the value of many SWFs and their abilities to pour money into the investment world”. According to Alberto Gallo, head of macro credit research at Royal Bank of Scotland Plc. “Petrodollars are becoming Petropennies.” According to the bank, the gross flow of petrodollars into the global economy last year fell to as little as $200 billion, down from nearly $800 billion in 2012.
  • According to a Blog by the IMF direct; “governments will likely be transferring less revenue than before to these SWF. At the same time, pressures to draw down on sovereign wealth funds assets will probably rise”. 
  • Also according to Elena Duggar, a senior vice president at Moody’s, “As a result, we expect increasing use of sovereign wealth fund assets to finance budget deficits and support domestic economies.”
  • Jeffrey Levi, a partner at Casey Quirk & Associates, an investment management consultancy, added: There is big pressure on governments because of the oil price drop and they are looking to sovereign funds for cash flow.”
  • The outflows expected to continue in 2016. Robert Callagy, a senior credit officer at Moody’s, the rating agency, said: “Resource-reliant sovereigns will come under increasing pressure to use SWF assets to stop gab budget deficits and support domestic economies. This should result in further pullback by SWFs from external asset managers.”

Libya’s difficult economic situation will greatly affect its SWF, the Libyan Investment Authority. Libya’s current or future government will need to take this drop in revenue more seriously and come up with an action plan taking into consideration its current debt, currency exchange reserves and its $67 billion SWF, which has been badly managed due to the current political climate.

1 thought on “Oil prices & the impact on Sovereign Wealth Funds

  1. Very good blog you have here but I was wondering if you knew of any user discussion forums that cover the same topics discussed here? I’d really love to be a part of community where I can get advice from other experienced individuals that share the same interest. If you have any recommendations, please let me know. Thanks a lot!

Leave a Comment