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11 things you should know about GCC institutional investors

In order to lessen their economic dependence on natural resources, the Gulf Cooperation Council (GCC) is undergoing significant economic structural reform. Could this mean more opportunities for investors?

How about institutional investors? What is their role in these shifting times? Richard Banks, Partner, Soling Partners, discusses 11 things you need to know about institutional investors.

  • Relative capital constraint: Reduced sovereign-level income from oil revenue mean the region is currently constrained in its international investment capacity relative to pre-2015. Whilst international capital deployments are still happening, this constraint will remain the reality for at least the medium term (3-5 years).
  • Domestic development is now the priority. Some countries, notably Saudi, have changed their sovereign wealth strategy to focus on use of capital to stimulate the domestic economy, transfer technology, create jobs and diversify away from hydrocarbons. This is driving a new focus on co-investments in companies/projects.
  • Income and yield are a higher relative priority in the past. Historical portfolio allocation to lower yielding domestic and international assets means a higher relative demand for current income-yielding strategies, real assets and in some cases structured products.
  • Localisation of staff. Every country in the region is enacting major policy initiatives to promote the employment of locals over expatriates. The region’s investment institutions are particularly attractive as they provide the stability of a government job with at least some of the perks and pay of a private sector position. The combination of these two factors has meant a large number of young, ambitious but relatively inexperienced local staff have been appointed recently. Their skills have yet to be properly tested.
  • More in-house management. Pressure on capital flows, low-yielding portfolios, a new focus on investment costs and the drive to employ nationals rather than expatriate staff mean that asset owners want to do more in-house (even if they are not, yet, able to do this to an international standard).
  • Expansion then consolidation. Policy-level demands for investing efficiency have resulted in the re-emergence of some major investors (pension funds mainly) after a period of dormancy. The investor base is numerically larger than it was 18 months ago. However, it is likely that this numerical expansion is a relatively short-term trend as there is already talk that consolidation of investing operations into larger umbrella organisations is being planned (for example with the launch in October 2017 of the Saudi National Fund for Development and the March 2018 merger of ADIC and Mubadala).
  • State and private pension funds should become more important. The pension funds particularly could see major AUM growth as they receive more contributory assets as the young populations enter the workplace – especially in Saudi Arabia. However, some are still working through serious legacy issues which may constrain short-term deployment.
  • Scale then specialisation. In addition to doing more themselves, asset owners are currently prioritising their limited staff resources to work initially with larger deployments with larger managers to reap economies of scale benefits. Some asset owners are reducing the overall number of managers with whom they work and have adopted a scale/specialist strategy – large allocations initially to larger managers who can cover vanilla products at a low cost and then smaller allocations to smaller managers who can access higher returns from more specialist strategies.

"Some countries, notably Saudi, have changed their sovereign wealth strategy to focus on use of capital to stimulate the domestic economy, transfer technology, create jobs and diversify away from hydrocarbons."

  • Alignment with asset managers. GCC asset owners now desire much closer alignment with their asset managers. This alignment demands a combination of competitive and balanced fee structures, a rising demand for segregated accounts, the provision of co-investment opportunities, a demand for knowledge transfer, training and staff development opportunities and a real understanding of the context and culture in which the institutions are making deployment decisions.
  • Decline in influence of third parties. A corollary of this desire for alignment is the declining role of the placement agent, broker and fixer – long a staple of the GCC investment environment. At many institutions there are now blanket prohibitions on the use of agents or introducers – in the past there have been instances of corruption and abuse of process. This model of influence (wasta) and top-down decision-making for non-commercial reasons is not totally dead, but it is publicly out of favour. Institutions are keen to stress their governance, processes and independence from outside influence – even if these factors are more currently more ambitions than reality.

"GCC asset owners now desire much closer alignment with their asset managers."

  • ESG not important, yet. Global industry trends such as ESG have not yet had a meaningful impact on the region. No doubt they will begin to play more of a role following the lead of the major regional funds in joining the OnePlanet Sovereign Wealth Initiative.

Richard Banks is speaking at FundForum Middle East & Emerging Markets on November 5 2019. He will be speaking on the forecast for institutional investors in the GCC area.