Over the past few decades, Sovereign wealth funds (SWFs) have become the preferred way for oil-rich nations to diversify their economies away from oil.
SWFs are “special investment funds created or owned by governments to hold foreign assets for long-term purposes,” according to the International Monetary Fund (IMF). They can also be used for stabilization and short-term liquidity.
This chart shows how the rise of oil prices and the creation of SWFs have gone hand-in-hand. The timing of SWFs’ establishment generally coincides with spikes in oil prices because SWFs are financed by surplus revenues that governments set aside for future development.
Oil and other natural resource reserves are finite and nations are planning for the “day after” their reserves are depleted. Countries like Indonesia have already turned from oil exporters to net importers of crude oil.
While their role as a cushion at the bottom of economic cycles is clearly defined, SWFs’ investment success in global markets has been mixed.
Before the credit crisis unfolded, SWFs collectively managed more than $5 trillion in assets but many of them saw 30-40 percent drops in 2008. The world’s largest SWF, the Abu Dhabi Investment Authority, lost 40 percent of its value during the crisis but still has $875 billion in assets as of last reporting.
Still, their long-term investment focus can be an important stabilizing factor for these developing economies.