The FDI angle:

• The assets under management of sovereign investors have been soaring rapidly. 
• Chasing higher profit yields, they are taking on more exposure to direct investment into alternative assets. 
• Sovereign wealth funds and public pension funds have become a force to reckon with in direct investment into infrastructure, renewables, property development. 
• Why does this matter? With traditional MNEs cautious with ther FDI plans, sovereign investors are set to become a coveted source of capital for countries looking for investors. 

In years past, the world’s biggest foreign direct investment (FDI) pledges were the exclusive terrain of corporates. The rare $20bn-plus projects were inevitably masterminded by the Chevrons, Intels and EDFs of the world. This trend came to a screeching halt in February when ADQ, an Abu Dhabi sovereign wealth fund (SWF), announced a $35bn investment into Egypt to develop the new city Ras al-Hekma along its central Mediterranean coast, plus a handful of related projects. According to fDi Markets, it is the biggest FDI commitment ever in the Middle East and Africa.

The ADQ deal laid bare the fact that SWFs, contrary to their historical role of investing surplus government revenues into public markets, are now moving the needle on FDI. Their potential is boosted by soaring assets under management (AUM). SWFs and public pension funds (PPF) had a collective $35.2tn in AUM as of March 2024, up from $18.2tn 10 years earlier, figures from research firm Global SWF show. 

Investment-hungry governments have taken notice. 

“That is direct cash, which is easy to funnel … into big infrastructure projects in things like offshore wind, hydrogen, nuclear power,” Lord Dominic Johnson, the UK’s investment minister, told fDi in February. 

Climbing the risk curve

The trend of sovereign investors injecting capital into real estate, infrastructure and private companies — collectively known as private or alternative assets — is not new. But in recent years, it has accelerated both in scale and sovereign investors’ willingness to bypass intermediaries, such as external fund managers, to make and manage these investments directly. 

From this perspective, ADQ’s deal caps the industry’s decade-long movement away from its roots as passive, financial investors focused on public markets, and towards taking bigger stakes in FDI projects and the firms behind them. 

Data collected by the International Forum of Sovereign Wealth Funds (IFSWF) shows that SWFs’ direct investments into private assets — both domestic and abroad — rose from $52.2bn in 2016 to hit $74.2bn in 2021 and $71.3bn in 2022 (the latest data available). Their exposure to these assets has risen, too. An Invesco survey of 85 SWFs and 57 central banks shows they increased their exposure to infrastructure and renewables from 2.8% of AUM in 2016 to 7.1% in 2023. Their exposure to real estate rose from 6.5% to 8% in the same period. 

“SWFs’ engagement from an FDI standpoint has become far more sophisticated and far more institutionalised,” says Patrick Schena, a professor at Tufts University who co-heads its Sovereign Wealth Fund Initiative. 

The world’s biggest PPFs are also increasingly investing directly in real estate and infrastructure. Preqin data shows that US-based PPFs’ allocations to alternatives since 2017 doubled to hit 30% in 2023. Major PPFs in Canada, northern Europe and east Asia have followed similar trajectories. Meanwhile Australia’s biggest PPF, AustralianSuper, plans to increase the amount of members’ money managed internally from 50% today to 75% by 2033. 

The increasing FDI inclination of sovereign investors comes at an opportune time. Project announcements by corporates have not returned to the pre-pandemic highs of 2018 and 2019, fDi Markets data shows. Higher interest rates have stopped the cheap-money-fuelled investment boom seen in some sectors, and geopolitical tensions coupled with an economic outlook still recovering from the Covid-19 pandemic, are stifling internationalisation strategies.

The key industry where sovereign investors are stepping in to rival corporates’ role as the primary driver of FDI is clean energy. Just four years after Abu Dhabi launched SWF Mubadala in 2002, it established a clean energy subsidiary Masdar which has since announced projects worth $20.8bn in renewable power across some 40 foreign countries, according to fDi Markets. That puts it among the world’s top-10 renewable power investors. On top of that $20.8bn, it is part of the Infinity Power joint venture, which is developing a $34bn green hydrogen project in Mauritania.

Sovereigns step in

In infrastructure and real estate, SWFs are also becoming a more powerful force in FDI. At end-2023, Ontario Teachers’ Pension Plan (OTPP), one of Canada’s biggest pension funds, had $40bn in infrastructure assets in which it holds a 15% to 100% stake — up from $18bn five years earlier. 

The most common position is a 50:50 joint venture alongside an “aligned partner”, says Chris Ireland, OTPP’s senior managing director for greenfield and renewables. After having built an internal team of investors with both finance and industry capabilities, Mr Ireland says the fund has “used that experience to buy platform companies that could take on activities usually reserved for large strategic players, such as developing and constructing power plants, waste facilities and container terminals”.

The trend of sovereign investors taking bigger stakes and moving up the risk curve is particularly pronounced in the UK, where consortia of state-owned funds hold major assets without the involvement of an external fund manager. Diego López, founder of Global SWF, points to the examples of Thames Water and Heathrow Airport which, upon the completion of Ferrovial’s sale of its 25% stake expected by mid-2024, will be co-owned by sovereign investors including Qatar Investment Authority (QIA), Saudi Arabia’s Public Investment Fund (PIF) and Canadian pension fund CDPQ — plus private equity firm Ardian, which will own a 15% stake. “Obviously the airport has an operator, but [these deals have] no Macquarie or Brookfield anymore,” adds Mr López, referring to the intermediaries that typically manage investments on SWFs’ and PPFs’ behalf.

In property, sovereign investors are taking on more development risk. AustralianSuper has held a 70% majority stake in the King’s Cross redevelopment since 2016; last year, it acquired a 50% stake in the £3.6bn redevelopment of south London’s Canada Water district — two of the city’s biggest regeneration projects. 

Sovereign investors taking on this level of greenfield risk is something “you might not have seen 10 years ago”, says Gavin Winbanks, founder of White Hawk Green and co-founder of the UK’s Office for Investment. He adds that the backing by an institutional investor like AustralianSuper meant King’s Cross’s developer, Argent, could “roll out the development at a much faster pace than it might have otherwise” if it were relying on external funding to develop the site block by block.

Building a diversified portfolio

Sovereign investors are eyeing strategic manufacturing projects too. In 2020, the Abu Dhabi Investment Authority (ADIA) led a consortium that paid $18.9bn for the elevator division of German steel conglomerate Thyssenkrupp. Two years later, ADQ acquired Turkish medical supplies maker Birgi Mefar Group with the stated objective to “build a fully integrated healthcare and life sciences platform in the UAE”.

Sovereign investors’ bigger role in FDI is explained by changes in the way public money has been managed since the global financial crisis. Rock-bottom interest rates prompted institutional investors of all stripes to put more money into unlisted assets to gain a so-called ‘illiquidity premium’. 

As companies stay private for longer, the biggest sovereign investors also struggle to keep a balanced portfolio focusing primarily on public markets. The poster child of this problem is Norway’s NBIM, which is the world’s biggest SWF with an AUM of $1.6tn, but is not allowed to invest in private equity. As pointed out in its letter to Norway’s government last November asking for this permission to be granted: “The number of listed companies worldwide has levelled off [and] there are fewer initial public offerings in developed markets.”

The move to invest directly in alternative assets and bypass traditional middlemen, such as asset managers, was originally planned to cut fee payments. This activity has been emboldened over the past five years by sovereign investors’ growing tendency to form partnerships with their peers. One well-established PPF partnership is between Australia’s Aware Super and the Netherlands’ APG. They collectively hold more than 50% of three European property platforms, including the UK’s Get Living. “When you do these very big deals, you want to partner with people who have a similar strategy, have done it before and know what they are doing,” says Alek Misev, Aware Super’s head of property. 

Political agenda

One of the most powerful drivers of SWFs’ FDI activities, however, is their shifting mandate to facilitate their governments’ public policy goals. The SWFs executing this agenda are known as strategic development funds. They invest capital in exchange not only for profits, but also for knowledge and technology in areas where their respective governments want to build skills and capabilities back home. “Clearly, there’s a sense of: ‘If you think your or the world’s economy in 10, 20 or 30 years is going to have certain dominant industries, you want to try to build up in those areas’,” says Paul O’Brien, the former deputy chief investment officer at ADIA. 

By investing directly rather than through an intermediary, sovereign investors “have a lot more access to the asset, to the company, to understanding the technology and business model”, he adds.

One of the best examples is Mubadala, whose name means ‘exchange’ or ‘barter’ in Arabic. In March its subsidiary Masdar completed its acquisition of a 49% stake in the world’s biggest offshore wind farm, Dogger Bank in the UK, which it will operate alongside German power company RWE. Reflecting on the deal, Masdar’s chief operating officer, Abdulaziz Alobaidli, says: “RWE is one of [Europe’s] largest offshore wind investors, they have significant experience in developing offshore businesses, so working alongside them will certainly add a lot to Masdar and our capabilities.” Its investments in wind projects abroad over the past decade are paying off back home. Last October it inaugurated the first commercial wind farm in the UAE “where people thought it wasn’t feasible due to low wind speeds”, Mr Alobaidli says. 

Another example is PIF, which was overhauled in 2015 to support Saudi Arabia's Vision 2030 plan to modernise the oil-dependent economy. With innovative mobility featuring highly among the ambitions of Vision 2030, PIF quickly went on to make its biggest investment ever, taking a $3.5bn stake — and a board seat — in Uber in 2016, which was then a private company. PIF also built a majority stake in US electric vehicle (EV) producer Lucid in 2018/19. Last September, Lucid opened its first EV assembly facility in Saudi Arabia. 

While sovereign investors making large, direct investments do not usually manage the assets day-to-day, they are increasingly sitting on boards and playing a role in decision-making and governance. “One of the most important things for SWFs is reputational risk,” says Victoria Barbary, IFSWF’s director of strategy and communications. “If you are going to take a large stake in a private company, you do not want that investment to make a loss. So it is incumbent on you to be involved.” 

Bigger is better

While the sovereign investment industry is making a splash in FDI, it is at the hands of “a relatively small, but consequential, influential community”, says Mr Schena. Data collected by Madrid-based IE University shows that in 2022, just seven of the world’s 100-odd SWFs were behind 84% of the industry’s direct investing: Singapore’s Temasek (30%) and GIC (16%) were the biggest players, followed by the deep-pocketed Gulf funds Mubadala (15.7%), ADIA (8%), QIA (7%), PIF (4.5%) and ADQ (3%). 

Among pension funds, FDI is dominated by Australia’s and Canada’s biggest funds. The latter were the first sovereign investors to start direct investing back in the 1990s — today, this phenomenon is still referred to within the industry as ‘the Canadian model’.

FDI is concentrated among the bigger players because only they can afford to hire enough sector specialists with a big enough geographical reach, to manage investments themselves. “When you get to our size, the cost of doing it can be absorbed and spread,” says Damian Moloney, deputy chief investment officer of AustralianSuper which has A$317bn ($207bn) in AUM. “You can access the talent and capability to get your internal teams in place. So it’s a fairly logical and consistent path.” 

While this limits the number of sovereign investors pursuing FDI, it also puts a floor on the size of their deals as they must justify the expense of doing things themselves. “One of the issues we wrestle with is what is the right size for direct transactions and private market transactions,” says Mr Moloney. “You want the performance impact from the investment.”

Commercial diplomacy

For all of SWFs’ promise as a conduit for FDI, their government ties give a political dimension. Mr O’Brien sees their enhanced role in FDI as part of the renaissance of industrial policy. “There’s definitely greater willingness to believe that state involvement to shape investment flows is a good idea,” he says. 

Middle Eastern SWFs’ growing presence in FDI is linked with the “rising political power of the Gulf states”, says Ms Isabelle Bébéar, Bpifrance’s director of international and European affairs. “The [ADQ] investment in Egypt might be a good investment on the merits, but it also fits with their foreign policy goals, to support a key country in the region that’s having some financial difficulties,” adds Mr O’Brien, referring to Egypt’s currency crisis. 

Fears of SWFs creating security and economic risks abroad were one factor that sparked the 2008 agreement of the Santiago Principles, which set voluntary guidelines on transparency and governance for the industry. “A lot of questions [used to be] raised about their intentions. But now with the Santiago Principles, things are clearer and this kind of fear has disappeared,” says Ms Bébéar.  

But this has not stopped the prospect of Gulf funds soon collectively owning 30% of Heathrow Airport — and Mubadala reportedly interested in investing too, according to Bloomberg — from raising concerns about Middle Eastern governments controlling European critical infrastructure. Data from US-based research firm SWF Institute confirm the level of transparency varies greatly across the spectrum of different SWFs.  

It is also important to have strong overarching, bilateral government relations to encourage impactful, low-risk and more FDI by sovereign investors. “It is not just purely a kind of political diplomacy, it’s actually commercial diplomacy,” says Mr Winbanks. In February, France’s government struck a deal with Qatar’s government that sees the latter invest €10bn into France’s economy by 2030. Under this pact, QIA and Bpifrance’s agreement to co-invest in French SMEs has doubled from €300m to €600m, and will now cover later-stage tech firms.

But like traditional diplomacy, the dynamic driving sovereign investors’ FDI is a slow moving affair. “If there’s one thing I've learned from working with SWFs for more than 15 years, it’s that they’re long-term investors and they’re very comfortable taking their time to get it right,” says Ms Barbary. “The reputational risk of something going wrong is massive … they won’t be doing deals for deals’ sake.” 

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This article first appeared in the April/May 2024 print edition of fDi Intelligence.