Middle East sovereign investors recalibrate strategies amid geopolitical uncertainty and market shifts

Khaleej Times

6 days ago

Political and policy decisions have become core drivers of investment strategy, prompting sovereign investors to fundamentally reassess portfolio construction and risk management, a study showed.
According to Invesco's annual Global Sovereign Asset Management Study, geopolitical tensions (84 per cent) remain the dominant short-term risks for sovereign wealth funds (SWFs) and central banks in the region, followed by a fallout from the Middle East conflict (68 per cent). An overwhelming majority (96 per cent) of respondents believe that geopolitical rivalry will be a key driver of volatility, while 91 per cent expect protectionist policies to entrench persistent inflation across developed economies. Most notably, 52 per cent of Middle East SWFs now see deglobalisation as a material threat to investment returns, underscoring a marked shift in the market narrative.
Invesco's study, a leading indicator on sovereign investor behaviour, draws on the insights from 141 senior investment professionals, including chief investment officers, heads of asset classes, and portfolio strategists, from 83 SWFs and 58 central banks across the world, collectively managing $27 trillion in assets.*
Active strategies gain traction alongside foundational passive exposure
One of the key shifts in portfolio construction identified in the study is the greater use of active strategies by respondents. On average, Middle East SWFs maintain 78 per cent of their equities portfolio and 77 per cent of their fixed income portfolio in active strategies. The survey shows that 33 per cent of SWFs in the region are planning to increase active equity exposures over the next two years, with 50 per cent doing the same with fixed income.
While passive strategies continue to provide efficiency and scale benefits, particularly in highly liquid public markets, active approaches are being used to address index concentration risks, navigate regional dispersion, and enhance scenario resilience in an increasingly fragmented landscape. At the same time, portfolio construction decisions such as asset class, geographic, and factor tilts are increasingly viewed as core expressions of active management.
Fixed income redefined and reprioritised
Due to a combination of geopolitical shifts and interest rate normalisation, traditional portfolio construction models are being rethought, with many SWFs turning to more dynamic portfolio approaches that includes more fluid asset allocations, enhanced liquidity management, and greater use of alternatives. Within this landscape, fixed income has assumed a new importance within SWF portfolios, becoming the second-most favoured asset class behind infrastructure. On a net basis, 30 per cent of Middle East SWFs plan to increase their fixed income exposure over the next 12 months.
'Amid geopolitical uncertainty and market shifts, investors across the Middle East are recalibrating their strategies,' says Josette Rizk, Head of Middle East and Africa at Invesco. 'Active asset management is growing in prominence due to its adaptability to a rapidly evolving economic environment. While private credit holds on to its popularity, fixed income has rebounded as the region's SWFs diversify exposures.'
Private credit takes centre stage as a new diversification tool
Private credit continues to gain momentum among SWFs in the Middle East, with 63 per cent accessing the asset class through funds and 50 per cent making direct investments or co-investments. The survey indicates that 50 per cent of SWFs worldwide, including 40 per cent of those based in the Middle East, plan to increase allocations to private credit over the next year.
This growing interest reflects a broader rethinking of diversification as traditional stock-bond correlations erode in a higher-rate, higher-inflation environment. Sovereign investors are turning to private credit for floating-rate exposure, customised deal structuring, and return profiles that are less correlated with public markets. Once considered a niche asset class, private credit is now viewed as a strategic pillar of long-term portfolio construction.
China remains a high priority in a fragmented emerging market landscape
SWFs are taking a more selective approach to emerging markets. Asia (excluding China) is a high priority for 43 per cent of respondents worldwide and 25 per cent in the Middle East. Meanwhile, China is once again an important focus for 28 per cent SWFs globally and 33 per cent in the Middle East, with 60 per cent of the region's SWFs expecting to increase China allocations over the next five years. SWFs are increasingly orientating their China strategies around specific technology sectors, such as AI, semiconductors, EVs, and renewables, with 80 per cent of respondents in the region believing the country's technology and innovation capabilities will become globally competitive in the future.
'Middle East SWFs are focusing a large proportion of their portfolios on Asian economies,' adds Rizk. 'Based on the outcomes of our study, we anticipate rising investment flows between the Middle East and China, with higher growth potential in selected sectors.'
Active management is viewed as essential in this environment. Just 25 per cent of Middle East SWFs rely on passive emerging market (EM) strategies, while 73 per cent access EMs through specialist managers, citing the need for local insight and tactical flexibility.
Digital assets, continued exploration
Digital assets are no longer seen as an outsider topic among institutional investors. This year's study shows a small but notable increase in the number of SWFs that have made direct investments in digital assets – 11 per cent, compared to 7 per cent in 2022. Allocations are most common in the Middle East (22 per cent), Asia Pacific (18 per cent), and North America (16 per cent), in contrast with Europe, Latin America, and Africa, where they remain at 0 per cent. For Middle East SWFs, the biggest barriers to investing in digital assets include regulatory challenges (100 per cent) and volatility (86 per cent).
'Investors are increasingly open to exploring the value digital assets may add to their portfolios,' says Rizk. 'In the Middle East, allocations are growing cautiously as investors balance new opportunities with regulatory challenges and market volatility.'
Globally, central banks are simultaneously advancing their own digital currency initiatives, balancing innovation potential against systemic stability considerations. While no central bank respondents in the Middle East have launched a digital currency yet, 33 per cent are considering it, viewing efficiency in payments (100 per cent) and enhanced financial inclusion (44 per cent) as the biggest benefits of central bank digital currencies (CBDCs).
Central bank resilience and gold's defensive role
Central banks are reinforcing their reserve management frameworks in response to mounting geopolitical instability and fiscal uncertainty. In the Middle East, 67 per cent plan to increase their reserve holdings over the next two years, while 27 per cent intend to diversify their portfolios.
Gold continues to play a critical role in this effort, with 63 per cent of central banks in the region expecting to expand their gold allocations over the next three years. Seen as a politically neutral store of value, gold is increasingly viewed as a strategic hedge against risks such as rising U.S. debt levels, reserve weaponisation, and global fragmentation.
At the same time, central banks are modernising how they manage gold exposures. In addition to physical holdings, an increasing number are turning to more dynamic tools, such as exchange-traded funds (ETFs), swaps, and derivatives, to fine-tune allocations, improve liquidity management, and enhance overall portfolio flexibility without sacrificing defensive protection. This is expected to continue, with 21 per cent of central banks globally and 25 per cent in the Middle East saying they plan to hold investments in gold ETFs in the next five years, while 19 per cent worldwide and 25 per cent in the region intend to hold gold derivatives.