Friday Letter no big bad wolf

The European Union has issued a voluntary code for sovereign wealth funds. It offers a voice of reason on a highly emotive topic.  

In the same week Guy Hands and others have suggested that sovereign wealth funds may become an alternative source of funding for buyouts, the European Union has stepped forward to embrace the financial bogeymen of politicians’ nightmares.

But the European Commission’s encouragement of sovereign wealth funds is conditional on compliance with a voluntary code, and a regulatory threat is waiting in the wings.

The commission hopes the code will serve as a template for governance and transparency standards for sovereign wealth funds to be agreed at a wider international level beyond the EU.

Commission President José Manuel Barroso said: “Sovereign wealth funds are not a big bad wolf at the door. They have injected liquidity and helped stabilise financial markets. They can offer reliable long-term investments our companies need. To ensure this, we need global agreement on a voluntary code of conduct – it is to this end that we make a contribution today.”

The commission recommends sovereign wealth funds clearly allocate and separate responsibilities in internal governance structures. The funds should issue an investment policy that defines their overall objectives. Funds should have autonomy from their sponsor governments and they should publicly disclose the general principles of their relationship with government authorities.

Barroso said he would propose European legislation if he could not achieve results by voluntary means.

The EU’s measured initiative is a welcome contribution to the debate that has grown around these increasingly influential investors. It has the potential to nip in the bud a real danger that sovereign wealth funds represent: that they trigger protectionists and nationalists into action.

Private Equity International is heading out to Dubai next week to host the Gulf region’s largest private equity conference. It will be interesting to see what some of the most influential sovereign funds in that region make of the EU proposals.

At the least, increased transparency could play in everyone’s favour, reducing the risk of a rogue trader spoiling the party for all. Enlightened self-interest would dictate sovereign wealth funds move quickly to a path of (relative) openness. They could be forgiven a strong sense of irritation at the reaction Western politicians have displayed at their recent coming to prominence. But they would also do well to heed the lesson of some of the funds they back. Ignoring their detractors is not a long-term option. Engagement is critical.