DAVOS, Switzerland (Reuters) - Last year, with most of the world mired in the "Great Recession," those outsized sovereign wealth funds amassed by governments from the likes of Abu Dhabi, Singapore and China went missing in action.
Now they're back, and ready to reassert themselves.
With some large funds expected to turn more activist, the demands they make as shareholders of global corporations and banks have the potential to drown out many other voices. On the one hand this will help improve returns for all shareholders, but also, potentially, show them exercising unwanted and perhaps politically motivated influence.
Investing windfall surpluses largely generated by oil and gas production, sovereign wealth funds (SWFs) are known to be opaque, secretive or low-key operators that give corporates cash quietly but never actively intervene in their management.
With around $1.5 trillion in equity investments, such funds -- the Abu Dhabi Investment Authority is the largest with nearly $600 billion in assets -- already hold about 4 percent of the world's listed companies, industry estimates show.
They are forecast by Deutsche Bank to see their assets more than double to $7 trillion in less than 10 years. As that happens their stakes in companies will naturally get bigger, which could give them more board seats and a bigger say.
"As they become even bigger and more successful, they feel more comfortable in investing in larger stakes. As they have a bigger share in the pie, we expect them to become more active," said Efraim Chalamish, an SWF expert and global fellow at New York University Law School.
"If I give you the stick will you use it? Usually the answer is yes."
Investments made by the funds seeking to benefit future generations in such countries as Norway, Saudi Arabia and Kuwait have in the past alarmed some Western politicians who worried that they may seek to push a political agenda.
Such concerns receded during the course of last year, partly because the credit crisis highlighted the importance of the long-term capital sovereign funds can provide to developed economies that are desperate for liquidity.
The funds also took numerous steps to emphasize their commercial stance, trying to be as passive and low-key as possible. Some funds with stakes in public firms are said by industry sources to have even waived board representation and voting rights.
"SWFs are not a political hot potato anymore," said Gary Smith, head of central banks, supranationals and SWFs at BNP Paribas Investment Partners.
"As funds become more experienced and exist for longer, the natural tendency for them is to be more involved in their obligations as shareholders, voting on shareholder motions, etc."
Funds themselves have also opened up, creating the Santiago Principles of best practice in 2008 and launching a forum of major funds last October to speak with one voice.
But they must walk a tightrope between exercising the rights, and fulfilling the responsibility, of a large shareholder, while at the same time keeping independent from their sponsoring governments.
"The key is whether SWFs can act as fiduciary governors and directors on boards for the financial and economic well-being of the company," said Angel Cabrera, President of Thunderbird School of Global Management in Arizona.
"You need to put firewalls to keep from political interference. Activism scares recipient countries. Activism plus transparency adds value."
More active funds -- voting at general meetings or seeking board changes -- could help firms improve shareholder value by adopting a longer-term perspective than that espoused by other activist investors, such as hedge funds.
And more participation in corporate governance from these funds may also help boost their own accountability and transparency, leading to better acceptance from recipient countries in need of long-term investment.
"Some of the hostility from some western European countries and the United States toward SWFs, in my mind, came out because of the lack of transparency. SWFs always wanted to work on a low-key basis," Talal Al Zain, chief executive of Mumtalakat, Bahrain's sovereign wealth fund, told Reuters on the sidelines of the World Economic Forum in Davos.
"In order for us to be a fair player in the market, we have to be transparent. It helps us ease the process of achieving our targets."
Academics in the past have proposed that the acquisition of equity by a foreign government-owned entity could trigger the suspension of voting rights on the stock, which would be restored when transferred to non-state ownership.
But others argue that to deny a large and important institutional shareholder the right to monitor management and participate risks weakening overall governance and discipline.
"If large shareholders renege on their responsibility to hold management accountable, then boards can no longer be relied upon to deliver the best possible outcome, in terms of both shareholder value and market efficiency," writes Andrew Rozanov, head of sovereign advisory at State Street Global Markets.
Funds that do look to take an active approach can learn from Norway, whose $400-billion sovereign wealth fund is one of the most openly active. As an owner of 8,000 companies, it voted on 68,724 items at 7,871 general meetings in 2008.
In October the fund attacked auto maker Volkswagen's planned takeover of Porsche as costly and opaque, urging it to cancel the plan and asking for an independent appraisal of its assets and debt. It also submitted shareholder proposals at four U.S. companies requiring them to have an independent chairman and separate the role of chief executive and chairman.
Norges Bank Investment Management, which oversees the fund, aims to vote at all general meetings of the investee companies.
"NBIM is to make active use of its ownership rights... by promoting good corporate governance and encouraging high ethical, social and environmental standards at investee companies," it said in its annual report.
But some sovereign funds may lack the resources and experience to follow this example: their original mandate is to be a capital-allocator and generate returns.
"You must be mindful of the resources, capacities and bandwidth SWFs have at their disposal, as they are typically managed by small bureaucracies who are trained primarily on portfolio management and asset allocation functions," said Khuram Maqsood, managing director at Emirates Capital.
"There is an entire class of private equity and hedge fund operators who are trained and well-versed in being effective change agents."
State Street's Rozanov believes sovereign funds could at times team up with activist hedge funds on issues such as the composition, competence and independence of board of directors, executive remuneration, takeover defenses and merger and acquisition proposals.
"In such situations, large institutional investors that may not be prepared to lead the insurgency themselves have the option of throwing their collective weight behind the proposals of an activist hedge fund," he said.
Editing by Sara Ledwith and Jim Impoco