http://www.malaysiakini.com/columns/20020321013064.php

Ignore Calpers at our own peril

By M Bakri Musa - Mar 16th, 2002

The responses in Malaysia to California Public Employees Retirement System's (Calpers) withdrawal from the local market reveal how far detached our leaders are from the realities of international capital markets.

One minister dismissed the decision of the giant fund as inconsequential. A former top Treasury official, now a major corporate figure, in an op-ed piece of a mainstream paper suggested that Calpers is playing politics. He then went on with great pretension to lecture Calpers that it should stick strictly to business!

Meanwhile our deputy prime minister angrily denounced Calpers, presumably in the naive belief that the best way to win and influence people is to get mad at them! He got his emotions right, but his actions were woefully wrong.

A more sensible reaction would have been to analyse why Calpers decided to withdraw. That would have led Malaysia to revisit its policies and make the necessary modifications so as to make its market attractive not only to Calpers but also others.

Calpers's decision came after a year-long review of all emerging markets. The particular reason for the re-evaluation was very practical: The fund was doing terribly in such markets. In the last five years its average annual returns in Malaysia, for example, was a horrifying 18.3 percent.

In its review, Calpers concluded that it was not enough to focus only on the market. Rather it must take a broader look at the supporting economic and political structures.

In effect Calpers realised that you could not have a 'good' company in a 'bad' country. Thus it decided to weigh equally what it calls the 'country factors' in addition to the usual 'market factors'.

Previously Calpers, like many investors, was concerned only with the market's performance and potential. This attitude is best encapsulated by the ancient Chinese observation to the effect that as long as you can milk the cow, it matters not who controls it.

That strategy works only when the milk is flowing freely. Now Calpers is hit with the reality that whoever controls the leash, also controls the udder. The California pension fund realises that it has to pay attention to what's going on to other parts of the cow, especially the head.

For Malaysia, Calpers found that a previously juicy udder is now fast drying up. As it looks around, it finds that the cow is being lead by its unenlightened tender away from the nutritious pasture into the dry barren terrain. It is time to abandon the cow.

Calpers considers a nutritious investment pasture (country factors) to be one where there is political stability, financial transparency, and productive labour practices.

The criteria for the first include the presence of civil liberties, an independent judiciary, and governmental stability. The elements for financial transparency include a free press. And productive labor practices would be those that subscribe to the International Labour Organisation convention. In all three counts, Malaysia had the lowest score of 1, with 3 being the best.

In the 'market factors', it scored low (1) on 'market openness'; intermediate (2) on market liquidity and volatility, regulatory environment, and settlement proficiency. Its only best score (3) was in transaction cost.

These results do not or should not surprise Malaysians. The surprise is that it took the Californians this long to figure this out. These elements have not improved; in fact they have worsened especially since the 1997.

And so has the performance of the Malaysian market. When the profits were flowing, there was no incentive to discover what made it so. When it dried up, one looked for explanations. It is to Malaysia's misfortune that Calpers now considers these 'country factors'.

Malaysia may presume to differentiate between different kinds of investors, welcoming long-term and direct investors while disparaging the short-term 'hot money'.

Investor objectives

In truth investors are all the same. They have the same objectives: To maximise their returns and minimise the risks. When conditions are favourable, short-term investors become long-term, and portfolio investments get converted to direct ones. When conditions head south, patient investors become short-term, and direct investors liquidate their holdings.

Prudent investors wisely diversify; between short-term and long term, and between direct and portfolio investments. When Malaysia denounced 'hot money' managers, it forgot that those investors were also investing directly and long term.

Further, other investors took note. When Malaysia instituted capital controls, investors assumed that it is closing its doors to all investments. Malaysian leaders' strenuous attempts to dispel this image fall on deaf ears. With so many other attractive markets, why should investors listen to Malaysia's pleas and sophistry?

Malaysians should be under no illusion to think that foreigners would invest in Malaysia for the love of the country. Nor is it because they are enchanted with things Malaysian or that they share our values.

They invest because there are profits to be made. And as they profit, so does Malaysia. This is true of all investors, native or foreign. Resorting to nationalistic exhortations rarely works; enhancing the returns on investments, does.

Listen, not lecture

Malaysia should listen to and not lecture at Calpers. Its sheer size, being the largest, makes it a force to be reckoned. Calpers also has a deserved reputation for being a trendsetter. Its initiative to revamp corporate governance and executive compensation, for example, quickly became accepted as the norm in America. We ignore Calpers at our own peril.

Malaysian leaders have it wrong; it is presumptuous of them to dictate to investors. It is for investors to consider whether Malaysia is an attractive place to put their money. Competition for investment funds today is intense for two reasons.

One, there are more new countries, especially after the breakup of the Soviet empire, and they are all eager for foreign investments. Two, also with the collapse of the communism, many countries are no longer enamored with socialism but are discovering the wonders of free market and foreign investments.

Malaysia's greatest competitors for foreign investments are China and India, because of their huge domestic markets. China is effectively exploiting that potential, paying only lip service to the ideals of communism. Its new mantra is, 'To get rich is glorious' India on the other hand is smug, believing that its huge market is attraction enough.