The world of investment attraction is a competitive one, with hundreds of investment promotion agencies (IPAs) and thousands of special economic zones (SEZs) the world over striving to attract a share of global foreign direct investment (FDI). They get so involved in the intricacies of their outreach to investors that sometimes they can’t see the forest for the trees. 

Strategies for the attraction of sovereign investors are a case in point. Global asset owners and managers have increased their exposure to so-called alternative investments — assets other than typical financial instruments like stocks and bonds — for years in their quest to achieve greater profitability. Their increasing appetite for investment into infrastructure (including renewables) and real estate has transformed them into a major force of international investment. 

In particular, the recent push by sovereign investors like public pension funds (PPFs) and sovereign wealth funds (SWFs) into critical infrastructure, energy, real estate and even manufacturing is such that IPAs and SEZs cannot ignore them any longer. However, dealing with these large pools of capital cannot be business as usual.  

Rising appetite for alternative assets 

The asset under management (AuM) of PPFs have grown to $23.1tn at the end of 2023, from $17.9tn at the end of 2018; and those of SWFs to $11.2tn from $7.4tnin the same period, according to figures from research firm Global SWF. Together, they account for $34tn. 

In the wake of the pandemic, sovereign investors pumped record amounts of capital into real estate and infrastructure, with investment levels in both asset classes rising to record highs in 2021 and 2022 before course-correcting in 2023, Global SWF data shows. 

Relatively speaking, their exposure to alternative asset classes has continued to rise throughout. According to a survey by Invesco of 85 SWFs and 57 central banks, sovereign investors (excluding PPFs) have more than doubled their exposure to infrastructure and renewables in the past seven years. In 2023 it stood at 7.1% of total AuM, from 2.8% in 2016; their exposure to real estate rose to 8% from 6.5% in the same period. 

The evidence is more fragmented for PPFs, but similarly consistent. Project data shows that the allocation to alternatives of US PPFs alone doubled to 30% in 2023 from 15% in 2017. Other major PPFs programmes like those in Canada, northern Europe and East Asia have followed similar trajectories. 

Why is this happening? 

Several reasons underpin this trend.

Sovereign investors share common primary objectives: preserving and generating wealth for their beneficiaries and future generations in their home countries, typically sustainable development in nature. In this perspective, sovereign investors have diversified away from traditional asset classes to chase higher returns. Their pivoting typically intensified in the wake of the global financial crisis or the more recent post-pandemic interest rates hike when stock and bond markets took a heavy hit. 

The propensity of some of them to invest in alternative assets abroad has also increased as the opportunities in domestic markets get saturated. The Australian supers are a case in point. In the case of sovereign investors from the GCC, their outbound push mirrors the increasingly assertive agendas of GCC countries to hedge their high exposure to domestic oil and gas industries by building portfolios in strategic industries and infrastructure overseas. 

The opportunity for governments the world over to attract these funds is clear. The infrastructure gap in developing countries is well documented, while developed countries have grappled for years with the need for a deep overhaul of their infrastructure and urban real estate landscape. Both have something in common: bar a few exceptions, fiscal resources to foot the bill are limited, which makes any engagement with sovereign investors looking for such assets even more strategic. 

What are the determinants for investment by sovereign investors?  The role of host governments

Sovereign investors’ most prevalent mode of international investment is cross-border project finance. Unlike multinational corporations, they tend not to be directly involved in building productive facilities, nor do they manage business operations and supply chains hands-on. 

They value opportunities for co-investment or collaboration with other like-minded investors, such as other funds, multinational companies, multilateral financial institutions or development agencies. There are five major determinants for sovereign investors to invest in a selected host country.

• Stable and transparent regulatory framework. Funds prefer to invest in markets that offer clear and consistent rules, policies and incentives for their investments, as well as protection of their rights and interests. They also value transparency and accountability in the governance of their investments and expect to have access to reliable and timely information.
• Attractive risk-return profiles. Funds are ultimately driven by the financial performance of their investments and seek to balance risk and return in their portfolios. They look for projects or sectors that offer competitive returns, as well as diversification benefits and resilience to market shocks. They also consider the costs and risks associated with the fluctuations of currency and interest rates.
• Robust exit mechanisms in the host country. When sovereign investors invest abroad, they encounter significant challenges, including market volatility and political uncertainty in many host countries. Ensuring a smooth exit from investments becomes paramount. To achieve this, exit mechanisms such as gradual asset disinvestment, strategic joint ventures, secondary market sales and initial public offerings need to be available. 
• Trust and partnership. Funds are more likely to invest in countries or sectors where they have established relationships and trust with the relevant stakeholders, such as governments, regulators, local partners or communities. 
• Sound sustainability regulatory framework. Many funds are increasingly aware of the environmental, social and governance (ESG) risks and opportunities in their portfolios and seek to align their investments with the SDGs. By demonstrating how their projects or sectors contribute to the SDGs, host countries or partners can appeal to the funds’ long-term vision and values. 

The above determinants serve as the basis for sovereign investors to decide where, when, how and how much they will undertake their cross-border investment. Therefore, host governments will need to spend efforts to ensure their economies can feature each one of these determinants and and stir up the interest of sovereign investors. 

How to attract FDI from sovereign investors? The role of IPAs and SEZs

To tap into the investment reservoir and effectively attract investment from the sovereign investors, IPAs and SEZs need to provide various services, such as marketing, matchmaking, aftercare and policy advocacy, as well as investor-targeting and project pipeline preparation. Specifically, they need to:

• Identify and target relevant funds. IPAs and SEZs can use their networks, databases and research capabilities to segment and profile the funds based on their investment criteria, preferences and strategies. This allows them to target the most relevant and suitable funds for the host country’s development priorities and comparative advantages. 
• Promote investment opportunities. IPAs and SEZs can promote the host country’s value proposition and investment opportunities to the funds using various channels and tools such as websites, newsletters, social media, events, roadshows, missions, and publications. They can highlight the host country’s market potential, competitive advantages, policy incentives and alignment with the SDGs.
• Facilitate investment process. By providing relevant and timely information, assistance and support, IPAs and SEZs can facilitate the investment process and decision-making for the funds. They can help the funds with site selection, due diligence, legal and regulatory issues, permits and approvals, incentives and benefits, and local partnership.
• Retain and expand existing investments. IPAs and SEZs can offer continuous aftercare and feedback services to retain and expand the existing investments by the funds. They can monitor the performance and satisfaction of the funds, address their challenges and concerns, and identify opportunities for reinvestment, expansion or diversification.  
• Advocate for a conducive investment climate. IPAs and SEZs can advocate for a conducive and attractive investment climate for the funds by engaging with other parts of the government and private sector. They can work to improve the policies, regulations and institutions that affect the investment environment, represent the voice and interests of the funds, and propose reforms and initiatives that can enhance the host country’s competitiveness and sustainability. 

How to support sovereign investors’ investment? The role of international institutions

International organisations and multilateral financial institutions can play a crucial role in assisting countries in attracting investment from sovereign investors, particularly in sustainable development. Measures include:

• Raising awareness. Supporting sovereign investors in creating awareness of investment opportunities and facilitating the exchange of best practices among the funds’ owners and managers.
• Facilitating IPAs and SEZs: Assist IPAs and SEZs in presenting trends and identifying emerging investment opportunities, building capacity in international project finance, and facilitating exchange of best practice.
• Establishing global partnerships: create global cross-community partnerships, as a global platform for both the communities of sovereign investors and the communities of IPAs and SEZs.

Overall, international organisations like Unctad, the OECD and the ITC need to collaborate with multilateral, regional and national development banks to improve host countries’ business climate and enhance their promotion capacity, particularly in project finance and preparation of bankable pipelines. They can also assist sovereign investors by strengthening their capacity to invest in cross-border projects in both infrastructure and real sectors.

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This article first appeared in the April/May 2024 print edition of fDi Intelligence.