Sovereign Wealth Funds Withdrawing from Russia: What You Need to Know

Blog post Team CENTRL 2022-08-01

Between October 2020 and December 2021, Russia attracted the sixth-highest number of sovereign wealth deals. In fact, in this period, the country accounted for 73% of all global SWF deals, along with the United Kingdom, Singapore, and Brazil.

But by March 2022, the tides had turned. Since Russia’s invasion of Ukraine in February, numerous state-controlled sovereign wealth funds (SWFs) announced their intention to leave Russia. These announcements followed almost immediately after the United States, the European Union, and their allies imposed harsh sanctions on Russia.

What are Sovereign Wealth Funds?

The OECD defines SWFs as “pools of assets owned and managed directly or indirectly by governments to achieve national objectives.” PwC defines SWFs as an “eclectic group of investors” with “distinct macro-economic purposes, missions, sources of capital and mandates that invest in many different asset classes, industries and geographies.”

In general, SWFs are “sovereign investors”, including:

  • Public Pension Reserve Funds
  • Large Public Pension Funds (PPFs)
  • Prevalent, strategic development sovereign wealth funds (SDSWFs)
  • Stabilization Funds
  • Savings and Future Generations Funds
  • Strategic Funds

Worldwide, SWFs are changing the course of national economies and helping boost economic development. Their assets are also growing steadily, with SWF assets under management (AUM) hitting an all-time high of $10 trillion in 2021.

Sovereign Wealth Funds: Goals and Objectives

SWFs have three specific goals that support a country’s strategic, economic, and social agenda:

  1. Macroeconomic stabilization
  2. Intergenerational savings/equity and capital maximization
  3. Economic development

Sovereign investors are grouped into one of these broad categories based on their economic objectives. However, their goals can evolve. That’s why a sovereign investor that starts with macroeconomic stabilization as their objective may eventually adopt capital maximization as their new – or additional – goal.

Russia’s Sovereign Wealth Funds: Before March 2022

In the October 2020-December 2021 period, there were 14 sovereign wealth investments in Russia, worth $2.6 billion. Russia’s own SWF, the Russian Direct Investment Fund (RDIF), was one of the most active SWFs in the country, accounting for 14 deals worldwide. By February 2022, the RDIF had a reserved capital of $10 billion under management.

When it was created in 2011, the RDIF’s goal was to attract more foreign investments into Russia and co-invest alongside some top investors. The SWF signed multiple partnerships with 20+ institutional investors worldwide in just four years. Over its 10-year lifetime, the RDIF and its partners signed deals worth over $40 billion and invested over 2.1 trillion rubles in the Russian economy.

Apart from the RDIF, two other major SWFs are charged with attracting more foreign investments into Russia: the Russia Reserve Fund and the Russian National Wealth Fund (NWF).

Like the RDIF, these SWFs have helped boost Russia’s economy over the years. The NWF, whose mission is to provide a financial “cushion” for the national budget, tripled its value from 2017 to $183 billion in February 2022. By 2020, the Reserve Fund held $85.4 billion AUM, well over 8X the AUM of the RDIF.

Foreign Sovereign Wealth Funds Investing in Russia: Pre-2022 Halcyon Days

Throughout 2021, the Top 10 SWFs around the world showed a clear investment appetite for emerging financial markets, including Russia. Most sovereign investments in Russia happened via partnerships with the RDIF.

Around the time of Russia’s annexation of Crimea in 2014, sanctions were imposed against the RDIF’s parent bank, Vnesheconombank. RDIF’s American private equity advisors quietly stepped down from their role, and the fund started focusing on reducing Russia’s dependence on Western finance.

That’s when SWFs from other countries stepped into the breach. For instance, Saudi Arabia’s Public Investment Fund committed $10 billion in 2015. Then, in 2017, China, which had already committed several billion dollars to the RDIF, committed another $10 billion.

In early March 2022, the RDIF had substantial investments from numerous SWFs worldwide, including:

  • Public Investment Fund (PIF), Saudi Arabia: $10 billion
  • Mubadala, UAE: $6 billion
  • Qatar Investment Authority (QIA), Qatar: $9 billion

These and other Middle East government funds held 69% of all Russian assets bought by state-owned investors. A spokesman from the Global SWF was quoted in the WSJ that these investors have bet more on the Russian economy than other funds because they identified Russia “as a long-term play” and were “looking at buying cheap assets”. Norway’s Government Pension Fund Global, the world’s largest SWF with almost $1.3 trillion AUM, had also invested almost $3 billion in Russian stocks by the end of 2021.

These glory days came to an abrupt end when Russia invaded Ukraine. In a very short period, many SWFs announced their intentions to divest their Russian holdings – to the country’s ongoing detriment.

Sanctions Imposed on Russia’s Sovereign Wealth Funds

On February 24, 2022, Russia launched a full-scale military invasion of Ukraine, which U.S. President Joe Biden declared “unprovoked and unjustified”. Within four days, the U.S. slapped sanctions on the RDIF.

The U.S. Treasury Department’s Office of Foreign Assets Control (OFAC) added three entities and one individual tied to the RDIF to its Specially Designated Nationals (SDN) list, prohibiting any U.S. person or financial institution from engaging in transactions with the RDIF. In addition, U.S. financial institutions are required to block (i.e., freeze) any property or interests in property belonging to SDNs like the RDIF.

The Treasury also said that the RDIF is “a slush fund” for the Russian government of President Vladimir Putin. By restricting the RDIF from the U.S. financial system, the U.S. aims to prevent Russia from raising capital to fund its Ukraine war ambitions.

After March 2022, the European Union and several allies also imposed harsh sanctions on Russia, prohibiting their enterprises from conducting any financial transactions with Russia for the foreseeable future.

Foreign Sovereign Wealth Funds Exiting Russia After March 2022

Following U.S. sanctions, many foreign SWFs quickly announced their intentions to exit Russia. State-controlled funds from Japan and France were among the first to pause their investments and partnerships with the RDIF.

The Japan Bank for International Cooperation (JBIC) said it would not be making new investments through the Russia-Japan Investment Fund – the umbrella framework under which the JBIC invests in Russia. France’s Bpifrance, which partnered with the RDIF in 2016, also said that it would not make new investments in Russia.

Similarly, on February 28, Norway’s Government Pension Fund Global also expressed its intention to divest its $3 billion worth of Russian holdings. In addition, the Norges Bank Investment Management, the arm of the Norwegian central bank that operates the SWF, also started divesting from the Russian market at around the same time.

On the same day, Australia’s Future Fund – the world’s 17th-largest SWF with $147.7 billion AUM in 2021 – also confirmed that it would wind down its remaining exposure in Russia. Canada’s second-largest pension fund also quickly divested its positions in Russia.

These developments clearly indicate that these countries are against Russia’s actions in Ukraine.

Foreign Sovereign Wealth Funds Staying in Russia for the Near Future

For the moment, Russia’s SWFs, particularly the RDIF, retain the support of China, Saudi Arabia, and the United Arab Emirates. SWFs from these countries are not divesting their Russian investments and still supply the majority of capital under the RDIF’s joint-investment framework.

For example, the China Investment Corporation (CIC), the world’s second-largest SWF with $1.2 trillion AUM, remains an important partner for the RDIF, with a current Russian exposure of $1.4 billion.

The financial and economic actions of the SWFs in these countries reflect the socio-political stance of their governments. Unlike Western powers, they have not openly condemned Russia’s actions. Arab countries maintain a neutral stance in the stand-off between sanction-imposing Western countries and Russia. And according to Reuters, China refuses to condemn Russia’s actions and describes its friendship with Russia as “rock solid”.

But their neutral or positive stance notwithstanding, the SWFs in these countries may not make new Russian investments in the near future because they too are facing decimated returns from their existing investments.

Even if they want to dispose of their Russian assets in quick “fire sales”, they will struggle to repatriate funds for two reasons. One, selling is not easy in today’s climate, and two, Russia has been locked out of the SWIFT messaging system.

The Impact of SWF Divestment on Russia

SWFs across the world are freezing and looking to potentially divest their holdings in Russian assets. As more such divestments happen, the Russian state will struggle to access the crucial capital required to modernize its infrastructure, diversify local manufacturing, and improve public health.

In recent years, SWFs worldwide have been investing more in the technology, telecommunications, agriculture, healthcare, and renewable energy sectors. Russian companies in these sectors will be deprived of precious capital to expand and reach new levels of growth.

Further, sovereign portfolio allocations to real estate and infrastructure worldwide have increased to 19.4% in 2021 from 17.3% in 2018. SWF divestment will deprive Russia of these investments and affect its urbanization and infrastructure development goals.

In general, without foreign SWFs, Russia will find it harder to stabilize its macroeconomic environment and maximize its intergenerational savings because these SWFs:

  • Act as long-term investors who can leave a legacy for future generations
  • Enable Russia to manage revenues derived from non-renewable resources
  • Finance key economic sectors that can foster continued economic and social growth

As the war drags on, these divestments will gather pace in the coming months and years. And Russia will suffer the long-term consequences of its decision to invade the Ukrainian state.

Digitized Due Diligence for the Investment Management Industry

Any investment decision – whether to hold, re-invest, or divest – requires careful thought and thorough planning. It also requires comprehensive due diligence – which can be a tedious and complex process for any SWF, asset owner, or fund of funds.

Digitization is crucial to reduce the tedium and eliminate the hassles of manual due diligence processes. Here’s where a due diligence platform like DD360 comes in.

DD360 digitizes the end-to-end due diligence process to reduce risk and unlock greater efficiencies. The platform offers a centralized source of truth available in real-time in the cloud. It also provides dynamic dashboards, fully automated DDQ and RFI workflows, risk auto-scoring, and a complete audit trail.

These features enable asset owners, wealth management groups, fund of funds, and SWFs to scale due diligence, reduce risk, and act with greater insight for every investment strategy and fund. Schedule a demo to know more about DD360.

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