Citizens' Fund investment chief: Our horizon is 40-50 years

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With a four-year delay, the Israeli Citizens’ Fund, Israel’s sovereign wealth fund charged with managing the state’s revenues from natural gas production and other natural resources, has been launched, after accumulating NIS 1.14 billion. The fund’s main long-term aim is to find wise investment instruments for the large amounts at its disposal, while avoiding historical mistakes, such as Dutch disease, in which the development of one economic sector causes a decline in others.

In an interview with “Globes”, the chairperson of the sovereign wealth fund’s investment committee, Yarom Ariav, talks about the great challenge in planning investment for the very long term, about preferred exposure, and why the fund will not invest in gas and oil companies. How does the wealth fund work? How are decisions made?

“We are really in our infancy. We have just been founded, and the amount accumulated in the fund is just over NIS 1 billion,” Ariav says. “Not that I would deride any sum of money, but that is a small amount. We meet at least once a month, and at the moment we are dealing with formulating policy for the future, while both learning from similar funds elsewhere in the world, and trying to do things differently on the operations side, as the Bank of Israel is supposed to provide the operations aspect of the investments. It is building a department that is not yet ready, and we have already made some decisions on investments. That’s a challenge at present, but there are some decisions that we have already made.”

40-50 year investment horizon

The chair of the wealth fund investment committee says that the investment horizon is 40-50 years. The fund has two goals. The first is to reduce Dutch disease as much as possible, that is, to avoid the danger that the success in discovering gas will lead to further appreciation of the shekel and hurt other sectors of the economy, mainly exporters and producers of alternatives to imports. The phenomenon is so called because of what happened to the Netherlands when it discovered a huge gas field.

“Israel has its own form of Dutch disease, as the technology sector is already causing the shekel to appreciate. We don’t want to make things worse,” Ariav explains. The fund’s second brief is to consider future generations. “When the gas reservoirs run out one day, we will want future generations too to benefit from the revenues that the gas discoveries bring.”

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When you look at other funds, is the Norwegian wealth fund among them?

“The Norwegian wealth fund is of course a kind of benchmark for all the world’s sovereign funds. It’s a longstanding fund that has been through several incarnations, and it offers lessons to be learned in this context. There are similar funds in Singapore and Australia. There are several funds that we are learning from, but they aren’t all the same thing. We have a certain uniqueness arising from the law itself.”

The law stipulates that all of the fund’s investments must be overseas, with the aim of avoiding Dutch disease. “The investment horizon is not defined in the law, but we see it as thinking about future generations,” Ariav says. “Initially, we set an intermediate investment policy for the accumulated sum for the next nine months, and during that time we shall devote our thoughts to long-term investment, including types of allocations. For the next nine months, we have a fairly small sum, but we set an investment policy for the medium term.”

Are there companies that the fund will not invest in, along the lines of the decision not to invest in gas and oil companies?

“One of the decisions we made, at our last meeting, was that we won’t invest in fossil fuel companies, for two reasons, economic and ethical. The economic logic is that the fund mainly comes from gas. It therefore does not make sense for our investment too to be in similar companies, that are affected by the same factors as affect our gas companies. We don’t want to invest in something that matches the source of the money. Of course, there is also an ethical reason. Mindful that we are concerned for future generations, we want future generations too to benefit from a planet earth on which existence is sustainable, in the sense that we do not destroy the planet.”

Like ESG?

“The definition of the idea of ESG is more vague, but the general idea is that investment should take into account not just the bottom line, but also certain ethical values. First and foremost, protecting the environment, but also proper corporate governance and social involvement. What is emerging is that you don’t harm the return when you invest in the right way in terms of maintaining values. In our case, there’s economic logic behind this decision.”

Does the decision to invest such a large amount of money overseas not look risky, or at least not up to date, in the light of the sharp falls on the markets, while the situation in Israel is relatively good?

“We’re not trying to time the market, but to go for the long term in a more or less stable way. And so, we can invest in assets that might be risky in the short term, but that will yield a high return in the long term. We’ll invest the not very high sums that have accumulated in the fund in a diversified manner, only in the developed countries, that is, in the US and Europe, chiefly through ETFs. Another point is that we won’t invest everything at one go, in order to avoid investment on one date, and we’ll spread the investment so that it will be gradual, in set amounts, which will reduce the risk.”

What do you think about the delay in launching the wealth fund?

“There were various forecasts about the rate at which the money would accumulate, and they weren’t realized. But if you’re looking at an investment horizon of 50 years, then four years isn’t all that significant. You have to remember that 3.5% of the fund is to be transferred to the state budget every year, for purposes stipulated in the law, such as environmental protection and other specific items. We do want to ensure that that that annual 3.5% will be invested in assets that aren’t risky, so as not to reach a situation in which the contribution to the budget will be harmed if there are fluctuations on the market. So we take into account that part of the fund is earmarked for the state budget.”

Over the next four months, the fund will invest in weekly instalments, in order to reduce the risk arising from volatility. There will be sixteen graduated, temporary investments through ETFs, each of about NIS 70 million. For the time being, the division of the portfolio will be 60/40 in favor of stocks.

“Even when stocks are at a low, we aren’t trying to time the market”

Why is the division of the portfolio weighted towards stocks?

“In scenarios of investment in risky assets over time, it is probable that the return on stocks will be higher. Even when stocks are at a low as they are now, we don’t get excited, and don’t try to time the market.”

How do you intend to make your decisions transparent?

“Investment policy itself is set by the council headed by the minister of finance. I personally am a member of both bodies, of the investment committee and of the council. The council sets guidelines for investment, and we are supposed to implement them. Once a month we examine various figures on the situation of the fund and information on what is happening in the markets, and make decisions about further investment, as money accumulates.”

Is there no requirement to report to the public?

“As you know, a Knesset committee was formed specially to oversee the work of the fund, and from time to time we appear before it. By nature, I believe in transparency, and the public deserves to know what is being done with its money. We will of course increase transparency as we go. The transparency of the Norwegian fund wasn’t built in a day either. In years gone by, things were less transparent, but I believe we’ll get there earlier. We have commercial restrictions, and so I don’t think that the public will know in which stock the fund invests. But I believe that the public has a right to know the investment policy.”

Is it not dangerous to let politicians decide about the distribution of the fund’s profits?

“The fund itself is for the long term. At present, the minister of finance heads the council, but he does not decide where the money goes. As far as the allocation for the state budget is concerned, that’s a political process, and it’s good that it’s that way.”

Will you invest in foreign currency?

“We have not yet set our long-term investment policy. At the moment, in the next nine months, we will certainly not invest in currencies. As for the future, we will formulate the investment policy, and then the types of assets, whether it be equity, debt, non-marketable equity, alternative investments, and so forth, will be discussed.”

What annual return do you aspire to?

“We don’t set that in advance, but the return is denominated in foreign currency. We won’t deal in currency hedging.”

The chief economist at the Ministry of Finance and the Israel Tax Authority differ on the amount of revenue that can be expected to flow to the wealth fund.

In a forecast by the chief economist, Shira Greenberg, she estimated that the fund’s revenue, in the basic scenario, would reach NIS 101.35 billion in 2050. The optimistic forecast is NIS 130 billion.

The estimate was made last January, and is lower than the forecast made by the Tax Authority for the whole lifespan of the gas reservoirs, that is, until 2064.

According to the Tax Authority, the size of the fund will reach NIS 141-170 billion, which in the low estimate is NIS 70 billion more than the chief economist’s forecast. In 2020, the Tax Authority itself made a higher forecast, of NIS 200 billion.

The launch of the fund was delayed for four years because of disputes over payments into it. The companies paying the “Sheshinski levy”, the tax that the state imposed on the gas exploration partnerships, dispute the payment demands and the amounts at the fund’s disposal.

ICL was supposed to start paying super-profits into the fund, but so far that hasn’t happened. Why is that?

“I don’t know. It not the responsibility of the investment committee or the council. What happens is that it’s the taxation system that collects the money. We don’t intervene in their considerations.”

How much money do you estimate will accumulate in the fund in the future?

“There are all kinds of estimates of the amounts that will accumulate. Israel has now renewed licenses for gas exploration, and when it comes to gas exports, we are dependent on prices. It’s difficult to know what prices can be expected to do in the future. There’s no doubt that, over the years, it will add up to a substantial amount.”

Yarom Ariav

Personal: 68 years old, married with four children. Lives in Mevaseret Zion.

Professional: Served in the IDF from 1972 to 1977. Discharged with the rank of major. Holds a first degree with honors in economics and a second degree in economics and international relations from the Hebrew University of Jerusalem. Worked in the Budgets Division of the Ministry of Finance and then joined ICL (Israel Chemicals).  Served as president and CEO of ICL Fertilizers Europe. In 2007, was appointed director general of the Ministry of Finance, a post he held until 2009. In 2011, founded a consultancy in economics and strategy. In 2019, was appointed chairperson of the Executive Committee of the Board of Governors of Ben Gurion University of the Negev.

Ariav headed the steering committee for the accession of Israel to the OECD, and was an important figure in implementing economic and social reforms.

Published by Globes, Israel business news – en.globes.co.il – on June 20, 2022.

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