Sovereign funds shift towards China despite trade tensions as Europe loses lustre

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Sovereign wealth investors are becoming disenchanted with Europe as an investment option amid a surprise shift towards China, despite the ongoing trade tensions with the US, new research suggests.

Asset management veteran Invesco revealed the surprise result from its latest survey of global sovereign funds and central bank reserve managers, representing more than $20tn of assets.

Although more than 80 per cent of sovereigns cited trade tensions as having had an influence on asset allocation decisions, China’s attractiveness as an investment destination over the next three years scored an average rating of 6.1 out of 10 among sovereign investors, a marked increase on 2017’s 5.2 rating.

Despite the study being carried out during a period of ongoing rhetoric on a US-China trade war, those surveyed saw China’s pledge to improve safeguarding of intellectual property as grounds for optimism that some resolution of tensions would be reached.

The unique competitive dynamics of China are appealing for sovereigns seeking more diversification, the survey found, although transparency remains a significant obstacle to higher allocations in China for sovereigns. For those sovereigns with no existing allocation to China, investment restrictions and currency risk are seen as the main impediments.

Europe’s own geo-political woes have not been so readily dismissed by sovereign funds, however, with a combination of slowing economic growth and perceptions of rising political risk leading to a decline in the region’s attractiveness for sovereigns, the report said.

Brexit is now influencing asset allocation decisions for 64 per cent of sovereigns, while continental Eurozone internal politics such as the ascendance of populist movements in major European economies such as Germany and Italy are impacting asset allocation decisions for 46 per cent.

This has resulted in Europe falling out of favor, with nearly one third of sovereign investors decreasing allocations to Europe in 2018 and a similar number planning further decreases in 2019, the Invesco report said.

Only 13 per cent of sovereigns plan on increasing allocations to Europe this year, compared to a 40 per cent allocation to Asia and 36 per cent to Emerging Markets.

Alex Millar, Head of EMEA Institutional at Invesco, said, “Our authoritative annual study of the global sovereign segment shows sovereigns and central banks preparing for an end to the current economic cycle seen within two years, leading them to be more defensive and diversified in their portfolios.

“Sovereigns have reduced equity exposure in favor of fixed income, but continue to blaze a trail with rising long term commitments to private markets, which for larger sovereigns now include direct investments in China and the technology sector.”

John Galateria, head of North America Institutional at Invesco, added, “As trade wars continue to impact markets, our research shows sovereigns’ shifting toward China, demonstrating their ability to look past short-term geo-political issues and capitalize on core dynamics, in this case the continued maturing of the world’s second largest economy.

“Another particularly notable finding is the rapid development of ESG implementation by sovereigns with their focus moving from ‘G’ governance initiatives to more closely looking at ‘E’ environmental initiatives.”

 

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