North Dakota is enjoying a flood of biblical proportions. Shale-drilling technology has liberated huge quantities of oil from the Bakken shale in the western part of the state. Production has surged from about 100,000 barrels per day in 2007 to nearly 1 million barrels per day this year—a tenfold increase.
But North Dakota, America’s latest petro-state, is handling its newfound wealth with the kind of modesty you might expect in a land where people live in giant open spaces and at the mercy of nature. Decades of boom and bust in agriculture have forged a culture of thrift, an abhorrence of debt, and a healthy mistrust of high finance. Alone among the 50 states, North Dakota has a state-owned bank. It never had much of a housing and credit boom, so it never had much of a housing bust.
So it’s not surprising the state is taking a conservative approach to its sovereign wealth fund, the North Dakota Legacy Fund.
At about $2 billion, the fund is a minnow among the more established resource-fueled public funds in the world. For decades, Norway has channeled its North Sea oil wealth into a fund that now contains $840 billion. Sovereign wealth funds based in Kuwait, Abu Dhabi, and elsewhere in the Persian Gulf have become important fixtures in the global financial scene—buying companies, building skyscrapers, and financing massive projects. Several U.S. states have channeled resource revenues into common property. The Permanent Wyoming Mineral Trust Fund, which collects revenues from coal, oil, and gas extracted in the state, has about $6 billion in assets—about $10,000 for each of the state’s 576,000 residents. The interest and income it generates flows into Wyoming’s general fund, and helps the state get by without an income tax. The Alaska Permanent Fund created in the 1970s, has some $51 billion in assets. Each year, it pays out a dividend to citizens ($900 in 2013) to ease the sting and expense of residing in the state.
North Dakota, by contrast, has chosen to create a lockbox. The state had long imposed a 6.5 percent extraction tax and a 5 percent production tax assessed against the value of oil removed from its soil. The funds raised went into the general budget fund, or were channeled into trust funds to support schools or infrastructure.
But when fracking turned the Bakken Shale into Saudi Arabia on the high plains, the trickle of oil revenues turned into a gusher. Eager not to squander the state’s good fortune, North Dakota in 2010 created the state’s Legacy Fund through an amendment to the state constitution. The amendment stipulated that 30 percent of all extraction and production tax revenues collected should flow into the fund. Further, the money couldn’t be touched for seven years, until 2017—at which point the interest and income generated by the fund would be rolled into the state’s general budget. Money from the principal could only be spent if two-thirds of both houses of the state legislature approved. And no more than 15 percent of the principal could be spent in any two-year period.
The rainy day fund filled up much more quickly than anybody anticipated. From 2011–13, oil taxes produced nearly $4 billion for the state. By July 2013, the fund contained $1.23 billion.
As the young fund got on its feet, it followed an extremely conservative investment philosophy: Pretty much all the cash was invested in safe, low-yielding bonds. There were to be no indoor-ski slopes built in Bismarck or 90-story skyscrapers constructed in Fargo. And the team at the North Dakota Investment Board, which also takes care of the state’s pension programs for public employees, didn’t rush to New York to find hedge fund and private equity sharpies. “We have about 18 folks in the retirement and investment office here in Bismarck,” said David Hunter, chief investment officer of the State Investment Border.
Instead, the fund is gingerly dipping its toes into the water. Hunter and his team have developed a conservative investment allocation similar to that seen in other pensions—50 percent stocks, 35 percent bonds and 15 percent real estate and other assets. “We’re phasing into that and expect it will be fully implemented by January 2015,” Hunter said.
Even with a conservative investment policy, the fund is growing very rapidly, and well beyond expectations. Last year, North Dakota had projected that the fund would have $1.7 billion by July 2015. But sharply increased production combined with persistently high prices have led to a flood of revenues. “New cash coming in averages between $65 and $72 million a month,” Hunter said. “It’s been exceeding our initial forecast.” By the end of March 2014, the fund’s balance had already risen to $1.925 billion. With new cash coming in at a rate of $700 million a year, and modest returns, the fund could easily swell to about $5 billion by June 2017.
That may not sound like a lot. But North Dakota has a population of 700,000, and its budget for the 2013–15 period is less than $14 billion. The state could easily start paying a dividend in 2017, or use cash flows and assets to fund the state’s operations. More likely, it will take the winnings from the seven fat years and hold it as an insurance policy against the possibility of seven thin years.
