Generic overview of liquidity, development sovereigns and central bank investment strategies

Liquidity sovereigns Liquidity sovereigns manage assets to stimulate economies that are highly dependent on commodity prices during a market shock. Due to the unpredictable and sudden nature of outflows, liquidity sovereigns have extremely short time horizons and prioritise portfolio liquidity above investment returns. Despite low yields of government bonds, liquidity sovereigns are unable to seek higher returns from alternative asset classes due to the inherent liquidity risk. Development sovereigns The asset and geographic allocation of development sovereigns is driven by the requirement to encourage local economic growth (rather than investment return). Development sovereigns take large (often controlling) stakes in companies of economic significance in order to grow their presence in the local market. While other sovereigns adjust allocations to maximise their asset growth and yield, development sovereigns consider their success in economic metrics such as GDP growth and job creation, working closely with their investments to grow long-term strategic assets. This means that development funds are relatively unreactive to return shortfalls and asset allocation trends. Central banks Central banks are ‘lenders of last resort’ - managers of a large foreign reserves portfolio to bail out financial institutions of public importance. Due to the importance of maintaining reserves to sufficiently cover such requirements, preservation of capital is of greatest importance. Central banks also have high levels of public accountability and disclosure, encouraging risk aversion through short time horizons and highly liquid investments. While other sovereigns invest in home market assets, central bank reserve managers hold the majority of their assets in foreign securities, increasing the importance of currency exposure relative to other sovereigns. Unlike sovereign investors, central banks have objectives outside of reserves management, including local market liquidity management and maintenance of currency pegs. Since these external factors have influence over the foreign reserves, in this study we consider central banks separately from sovereign investors. However, as many government bonds have negative yields, certain central banks have looked to invest in non-traditional asset classes (e.g. equities) to preserve their capital, closer aligning their foreign reserves investment strategy to that of sovereign wealth funds. Funding challenges and the low return environment have unique implications for each sovereign segment. Investment & liquidity Liquidity sovereigns (ale) (DEV) Investment & development Development sovereigns Capital p Central banks! (CB) 03 HOUSE_OVERSIGHT_026683