Ireland Learns ‘Directed Investment’ Lesson the Hard Way

China prepared to bail EU out, buy Irish banks.

November 23, 2010

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260009_bends_aheadAs an SWF wonk, I have to say that I feel particularly bad for the Irish NPRF (and Ireland’s pensioners). Recall that, because of the government’s directed investments policy, the NPRF is now a huge shareholder in Ireland’s banking system. By the looks of things, this is not an enviable position to be in.

But fear not, concerned friends, when one SWF falls down…others are waiting in the wings to save the day!

“The Chinese and other Asian sovereign wealth funds are believed to be prepared to shell out to effectively fund any bailout by buying bonds issued by the EU bailout fund. They are also likely to be targeted as potential buyers for Irish banks by the NTMA, dependent on negotiations with the IMF and EU officials.” (emphasis added)

Are you kidding me? Are we really talking about SWFs saving Western financial institutions again?! Apparently so. And people still actually think that SWFs can fill the function of ‘investor of last resort‘? Again, apparently they do.

But, remarkably, there is at least a recognition this time that SWFs are not interested in throwing good money after bad:

“However, any sale of Irish banks would be dependent on some form of guarantee to protect the buyer from future losses.”

No doubt. However, the Irish SWF also received plenty of assurances when it was directed to invest in failing Irish banks too:

“These investments were in perpetual preference shares with an annual non-cumulative fixed dividend of 8% payable in cash or, in the case of non-payment by either bank of the cash dividend, ordinary shares in lieu. The preference shares could be repurchased at par up to the fifth anniversary of the issue and at 125% of face value thereafter. Warrants issued with, but detachable from, the preference shares gave an option to purchase up to 25% of the enlarged ordinary share capital of each bank (following exercise of the warrants). The warrants were exercisable at any time from the fifth to tenth anniversary of issue of the preference shares or immediately prior to any takeover or merger of the bank concerned, whichever is earlier. The number of ordinary shares which may be acquired pursuant to the exercise of the warrants was subject to anti-dilution protection in line with market norms for warrants. Accordingly, the warrants will be proportionately adjusted for any increase or decrease in the number of ordinary shares in issue resulting from a subdivision or consolidation of units of ordinary shares. The warrants will also be proportionately adjusted for any capital distributions by the bank and for certain bonus issues or rights issues by the bank.”

And even with all those provisions, how many of you think the NPRF will make a profit — or even get its money back — on its 7 billion euros?

And herein lies the tragic story in all this. If the Irish banks had been headed for failure anyway, wouldn’t it have been nice to keep the NPRF’s money, say, for what it was legitimately intended? (i.e. pensions.) (Not to worry, I won’t rehash all my old arguments on this topic…just see here, here, here, here and here.)

Interestingly, the real ‘investor of last resort’ in this case was actually an SWF: the NPRF. It invested in the Irish banking system…not because it thought there was an opportunity for profit, but because it was told to by the government to do so. In this respect, we should call directed investments what they really are: bailouts. Whether a state treasurer is directing his pension fund to invest in a struggling firearms manufacturer during an election, or a national pension reserve fund is directed to invest in a struggling banking industry, these funds go where no others will…because, ultimately, the investments make no economic sense. And you don’t need to be a futurologist to know what tends to happen in these cases: heavy financial losses.

And, with that, I’m forced back to the topic of investment governance. It’s for similar reasons that many public funds have spent so much time thinking about governance mechanisms that will ensure independence from political (and external) influence. Now, I have to give the Irish credit; I understand why they dipped into the NPRF. But, nonetheless, it still pains me to see pension money wasted in this manner.

This post originally appeared on the Oxford SWF Project website.

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