State funds could own five percent of firms

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Government-owned funds, which own almost $3 trillion (1.5 trillion pounds) in assets, have climbed up to the main stage of the global economy since last year after pouring tens of billions of dollars in buying up stakes in troubled banks hit by the credit crisis. State Street, which manages more than $270 billion for sovereign clients, says SWFs represent a source of additional demand for financial assets as they diversify their assets, which it estimates are growing by at least 17 percent a year.

Over time, these funds could have two thirds of their portfolios in equities, a third in bonds and the rest in alternatives - similar to the typical asset allocation of a pension plan.

"Their asset allocation has become more diverse... We think the trend is clear," John Nugee, head of State Street's official institutions group, told a briefing.

"Roughly half of their assets are in equities... we expect that to rise to 60 percent. There will be a considerable rise in their interest in alternatives. Therefore we expect their investment in fixed income to fall."

SWFs assets are set to increase by $5 trillion in the next five years. If they allocated 60 percent of this new capital to the MSCI All Country World Index .MIWD00000PUS, State Street estimates that they would collectively own about 5.5 percent of each company in that index as of end-March 2008.

If they allocated 60 percent of the new capital to FTSE Global All Cap Index, they would own about 5.2 percent of each of the 8,009 companies in the index.

"They will not be totally dominant investors but certainly important investors. It's the marginal players which move the market," said Nugee, who has more than 70 central banks and government clients.

"We expect this will underpin equity prices, which will mean that equity yields will be slightly lower. We expect pressure on bond prices, and this of course narrows equity risk premium."

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