Should Middle East Funds Own U.S. Banks?

Rising defaults on home loans led Citigroup to post a $2.5 billion loss today, but the earnings report still beat Wall Street expectations and shares for the company were expected to advance to today.

As Citi reported its results, a Saudi prince was likely playing close attention. The nation's biggest banking firm counts as one of its top stakeholders Prince Alwaleed bin Talal.

As of last year, the prince owned more than $3 billion in Citigroup shares through his company, Kingdom Holding Company. In January, he was one of eight investors to buy a total of $12.5 billion in Citigroup securities.

The prince's interest in U.S. bank investments is nothing new — he began investing in Citi in 1991 — but this year, as banks scrambled for capital, several Middle Eastern funds have followed bin Talal's lead with sizeable investments of their own in American financial firms … and that makes some Americans uneasy.

"Americans should be able to have ownership of their country and not depend on international resources to bail them out," said Stephanie Weeks, a New York resident and a customer of Citigroup-owned Citibank.

Is Weeks right to be upset? It depends on who you ask: Experts disagree about the benefits and risks of foreign investment in U.S. banks, particularly when it comes to investment from Middle Eastern states that, thanks to ever-growing oil revenues, have money to burn.

The Middle Eastern funds have "money is coming out of their ears because oil prices [have been] at $140 dollars a barrel," said Desmond Lachman, a critic of sovereign wealth funds and a fellow at the American Enterprise Institute, a conservative think tank. "These people have huge amounts of reserves and they want to invest them more profitably."

While bin Talal's fund is private, much of the debate revolves around sovereign wealth funds — funds that invest money on behalf of a country.

In November, United Arab Emirates' Abu Dhabi Investment Authority invested $7.5 billion in Citigroup.

In January, Kuwait's fund, the Kuwait Investment Authority, and the Singapore Investment Corporation were among the investors in the $12.5 billion Citi deal.

The same month, Merrill Lynch raised money from the Kuwait Investment Authority as part of a $6.6 billion preferred stock deal that also included South Korea's Korea Investment Corporation.

Citi and Merrill have both expressed confidence in their sovereign wealth fund investors, but not everyone is so complimentary. Critics, including politicians, have raised concerns about the funds putting political motivations ahead of investing goals.

"I find it hard to believe that a foreign government is willing to invest billions and have no say," Sen. Robert Menendez, R-N.J., said at an April meeting of the Senate banking committee.

Others worry that the funds aren't forthcoming enough about their operations.

"I think the funds are not operating very transparently," said Brad Setser, a fellow at the Council of Foreign Relations. "They just never had a tradition of being transparent. In some cases, they come from regions in the world that are not noted for their transparency."

One exception, Setser said, is the Kuwait Investment Authority, which reports to Kuwait's parliament and releases data about its size and the source of its funds.

But Setser said that even if funds aren't operating transparently, it doesn't mean they're acting politically either.

"There's no evidence that foreign investors, whether it be private investors or state-owned enterprises or sovereign wealth funds, pursue anything other than economic objectives when they invest," said Dan Ikenson, associate director for the Center for Trade Policy Studies at Cato, a libertarian think tank.

Even if a fund has ulterior motives, it might not have the ability to pursue them.

In a statement to ABC News, Citigroup stressed that its sovereign wealth fund investors "have no special rights of ownership or control and are restricted from seeking to influence management or the governance of the company."

Ikenson said he welcomes foreign investment in U.S. banks because, these days, they provide much-needed liquidity.

"If we scare them away we will regret it because we really need access to international capital," he said.

The Dubai Effect

Foreign investment in the United States fell under a searing spotlight in 2006, when a company owned by the Middle Eastern state of Dubai sought to manage U.S. seaports. The company, Dubai Ports World, eventually, pulled out after an uproar over national security concerns.

Since then, Congress passed legislation to strengthen the Committee on Foreign Investment in the United States, the group charged with reviewing foreign investment to ensure that it doesn't pose risks to the country's national security.

Proponents of sovereign wealth funds and foreign investment in U.S. banks say that CIFIUS is just one of the safeguards keeping foreign influence on American financial institutions in check. They note that when investors, foreign or not, purchase large shares of a bank — 5 percent or more — that can trigger reviews and disclosure requirements by the Federal Reserve and the Securities Exchange Commission.

Sovereign wealth fund investments in U.S. banks usually don't exceed the five percent threshold. That's of little comfort to Lachlan, who said he's concerned that Middle Eastern funds could take their minority stakes and team up to exert influence for a common political cause.

"You could be having a bunch of Middle Eastern sovereign wealth funds that now have 20 percent stake in Citibank between them," he said. "All they have to do is collude and you've got a problem."

Ikenson dismissed the collusion idea as a "far-fetched theory."

Scared Away?

In the short-term, at least, foreign investment in U.S. banks may be on the decline, Setser said.

"The issue has fallen off the front page in large part because there hasn't been any new round of investment and that's likely linked to the poor performance of most major financial institutions," he said.

The collapse of Bear Stearns, he said, may have made foreign investors especially leery.

"I think it would be a nightmare for a large sovereign investor to put a couple billion in a financial firm," he said, "and see the financial firm go bust soon after."

The Associated Press contributed to this report.