Central bank interest in renminbi investments has accelerated during the Covid-19 crisis, as reserve managers step up pre-pandemic trends towards diversification, including buying more green and digital assets, OMFIF’s 2021 Global Public Investor reveals. Drawing on a survey of over 100 central banks, sovereign funds and public pension funds, as well as internal research and contributions from a range of external asset owners and managers, the report paints a picture of a rapidly changing sovereign investment universe.
A strengthened push to ‘green and grow’ GPI assets comes as they have reached their highest level ever as of the end of 2020, standing at $42.7tn. Central bank reserves have also risen to record highs, standing at $15.3tn as of the end of 2020, compared to $14tn at the conclusion of 2019, in spite of the pandemic.
Public pension fund assets continue to rise, up to $18.1tn from $17.2tn as of the beginning of 2021, with the majority of assets concentrated in North America ($9.1tn) and Asia Pacific ($4.8tn). This is partly due to stellar returns on riskier assets, such as equities, which experienced a stunning post-pandemic resurgence. The same holds true for sovereign fund assets, albeit at a slower pace. Their assets grew by just under 4% to $9.3tn from $9tn.
This has differed across regions. GPIs in emerging markets experienced considerable declines in total assets, particularly in the Middle East and Latin America where they fell by 2.4% and 0.8% respectively. Losses were concentrated in the United Arab Emirates, Iran and Brazil, the three countries which experienced the largest drops. On the other hand, the US, China and Switzerland grew most, by 19.3%, 12.8% and 11.5% respectively.
Despite the unevenness of asset growth, over 20% of central banks surveyed plan to add to their holdings of equities and corporate bonds, compared to roughly 10% last year. Of public investors, 60% plan to add to their green bond holdings over the next 12-24 months, compared to 45% last year.
Just how much room is left to run for diversification is an open question. The lower-for-longer post-pandemic interest rate environment will no doubt help prolong this push, but central banks already hold over $1.4tn in listed equities. As the stock of global foreign exchange reserves continues to swell – a majority of central banks sees a case for continued accumulation – this will no doubt grow, especially as equities performed well as a reserve asset during the Covid-19 shock. But only 60% of central banks said they would be willing to use more than a third of their reserves in the event of a serious currency shock. Will central banks eventually reach a point where the social and opportunity costs of large reserves outweigh the benefits? Should excess reserves be put towards more productive uses?
Public investors have to strike a similarly delicate balance on questions of sustainability. Most invest in green assets, particularly fixed income. But the pandemic has meant that environmental, social and governance factors have exploded as major areas of concern for official institutions, particularly in their discussions with external asset managers. Now, funds want to explore new ways of benchmarking, new scoring methodologies and new approaches to responsible ownership.
For central bank reserves managers or stabilisation funds, this poses challenging questions about the trade-offs between liquidity, returns and sustainability. Even for large pension funds, far along the ESG curve already, questions of how much and how quickly they can green their portfolios lack definite answers. This tension will play itself out over the coming years.
Debates on active ownership strategies further complicate matters. Only 4% of central banks say they engage in active asset ownership, with a handful of respondents engaging in dialogue with investee companies and participating in multilateral responsible investment forums. But as this changes, questions such as whether market neutrality is compatible with active ownership will come to the fore.
To help navigate these tensions, GPIs often draw on their relationships with external managers, whose expertise and proximity to the market can be critical. On a weighted average basis, only 6% of central bank assets are managed externally. This figure is closer to 38% for sovereign and pension funds. But the reasons external managers are used are common. Drawing on new data as well as conversations with some of the world’s largest asset managers, a section of the report explores the dimensions and evolving nature of relationships between asset managers and owners, and the way they will shape the future of public investment.
Looming over the future of these public investors are profound questions of politics, transparency and strategy. For one, this report seeks to unpack GPIs’ position as strategic agents by focusing on the role of and reaction to their infrastructure investments. While many institutions have bolstered their investment screening rules in recent years, only 4% of institutions surveyed said they had ever been blocked or discouraged from investing in foreign strategic infrastructure.
This trend of seeking greater control and, importantly, transparency extends to central banks as well. Building on a 2019 study, this report examines central banks’ activity on social media and seeks to understand how they are leveraging new technologies to reach broader audiences.
The Covid-19 pandemic has underscored and intensified these intertwined trends. This report digs into them and draws meaningful conclusions about best practice for public investment across the globe.
Pierre Ortlieb is Head of Policy and Analysis, Economic and Monetary Policy Institute, OMFIF.
Watch the GPI 2021 launch here.