By Cao Huining and Liu Jin (China Daily)
Updated: 2007-09-26 13:41

Judging from several recent developments, the authorities seem to prefer private equities. This is understandable because China is a green hand when it comes to investing funds from the foreign exchange reserves. Moreover, there is a successful example to learn from: Temasek Holdings in Singapore.

Set up in 1974, Temasek Holdings oversees the investments of the Singapore government. Its average annual rate of return in the last three decades has been 18 percent, much higher than the annual growth of the stock market. By the end of last year, the company was managing $100 billion worth of assets, about 83 percent of Singapore's GDP for the year.

Temasek Holdings operates like a venture capital firm. It makes its investment decisions only after extensive research. As of last month, Temasek Holdings was the majority shareholder in more than 20 companies in the banking and telecommunications sectors, among others, in countries in East Asia and Southeast Asia.

However, while Temasek Holdings' successes are remarkable, its experiences are not suitable for China to copy at this moment.

As is typical for venture capitalists, Temasek Holdings' huge rewards came after facing big risks.

Temasek Holdings succeeded in most of its investment projects because of its unique access to information. About 40 percent of its investments were made within Singapore, and the rest were mostly in neighboring countries. It is not hard for Temasek Holdings to acquire the information it needs to make investment decisions.

Singapore's economy has been closely integrated into the global economy ever since the country was founded. The people at Temasek have been able to draw on their country's rich trade experiences.

When China uses funds from its forex reserves to invest, it will have to venture out into global financial markets. However, the Chinese are far from experienced in the global market.

It is important to maintain a certain level of liquidity in the forex reserves. If the funds are put into private firms, it will be hard to convert them back to cash when needed without suffering big losses. So it is improper for the forex investment body to copy Temasek Holdings.

Therefore, the stock of listed companies is a better choice for China as it goes in search of bigger rewards by investing funds from its foreign exchange reserves.

To manage the risks involved in trading on the stock market, the forex investment body could choose a global stock market index mutual fund as their primary investment target.

An index fund would be a good target for the forex investment body because investing in them does not require experience, talent or access to information to make an investment decision. By tracking a package of shares, such funds dilute the risks as much as possible. And index funds are also the most liquid and least costly of all mutual funds, raising the long-term returns of the forex investment.

Simply put, targeting index funds is the best strategy for China at this moment, as it faces the many possible ways to construct its investment portfolio.

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