“Prudence” fails Hong Kong art hub’s investments

The Hong Kong endowment fund for a cultural development project, the West Kowloon Cultural District Authority, has squandered its HK$26.1 billion ($2.8 billion) endowment because of excessive risk aversion.

It’s worth noting this example: Many institutional investors around the region should note the consequences of obsessing over short-term risk and the impact of poor governance on investments.

The project, which was begun in 1998 and which saw the Authority established in 2006, is now expected to cost Hong Kong taxpayers an additional HK$16 billion in part because of “lower-than-expected returns on investments to help fund it”, according to a South China Morning Post front-page story this week.

This is according to an interview with Chau Kwong-wing, a professor at the University of Hong Kong, who has been asked by Hong Kong lawmakers to assess the WKCDA project periodically. The endowment is meant to fund a 40-hectare project that critics call a real-estate boondoggle being disguised as a monument to culture.

Runaway construction costs for impractical designs by Sir Norman Foster are also to blame for the budget shortfall.

The SCMP notes that the WKCDA’s new CEO, Michael Lynch, who was installed last year, agrees that the investment strategy had been “too prudent”.

As reported by AsianInvestor last year, the government has budgeted its investment return to be 6% on an annualised basis. The Authority has continuously flip-flopped over how to achieve this, hiring consultants, firing consultants, and doing nothing.

Instead the money has been parked in cash and cash-equivalent instruments, or given to the Hong Kong Monetary Authority. Together these buckets returned 1.1% in 2009 and 3.4% in 2010. By any measure this has underperformed inflation – consumer prices rose nearly 6% last year. So the endowment has effectively thrown money away.

Lynch says the authority has hired “investment professionals” to sort this out.

The Authority has been hampered by a revolving door of CEOs, but this is no excuse for prolonged negligence regarding taxpayer money.

The government has had years to put that endowment funding into some sort of sensible investment that would yield a return. It could have simply put half of the money into the Hong Kong Tracker Fund, if it doesn’t want to pay fees to consultants and active money-managers. The Tracker Fund has returned 9.63% on a cumulative five-year basis.

Unfortunately the Authority’s bureaucrats – or, more accurately, the government to which they report – appear to see their main job regarding the endowment as not losing nominal amounts of money on their watch. (The chairman of the Authority’s board of trustees is Stephen Lam Sui-lung, chief secretary for administration.)

This notion that doing nothing is less risky than making simple investments is understandable, given the way financial markets have behaved, but it’s counterproductive.

The real damage is in letting money die a slow but sure death in instruments that can never keep pace with inflation.

If legislators in Hong Kong are outraged by the frittering away of the money that’s been entrusted to the WKCDA and its inept bureaucracy (and its employees are indeed inept if they think that putting cash in a bank deposit yielding under 1% interest leads to “lower than expected returns”), then they should take a look at the Mandatory Provident Fund system.

There the default options for people who are too lazy or intimidated to choose a fund is the most conservative cash plan. There is no better way to ensure these individuals are bereft of their savings over time. And there is no surer way to lose one’s shirt (in real, inflation-adjusted terms) than by being so “conservative” that you end up doing nothing.