One of the key themes being discussed and debated at this year’s Aspen Ideas Festival is: “How will we live in a world with exploding population growth?” There are a variety investment opportunities to be had in connection with this.
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Emerging Markets Globe
In a time of financial crisis and “risk off” mentality, it’s easy to overlook some compelling longer-term trends that will meaningfully impact your investment returns in the years to come. America, Europe and Japan are overleveraged, and the demographic headwinds of their growing non-working age populations will further hamper their respective ability to generate robust economic growth.
Conversely, many emerging market countries will be home to an exploding population with a growing working-age populace over the next several decades. We will see trends appear: more consumers, more of whom are working, and more of whom will see their incomes rise. All of these trends lead down the road to vibrant economic growth and attractive investment opportunities in these emerging market countries.
As an investor, you should come away with three immediate conclusions to this contrasting phenomenon:
- Investments centered on the developed world’s markets will be generating lower than historical rates of return for the next 5-7 years as debts are paid down and the number of retirees accelerates.
- Growing populations and thriving economic growth in emerging market countries will create more compelling investment alternatives stemming from these countries.
- Whereas investing in emerging markets used to be synonymous with investing in export-driven companies, investors aiming to make money on the future growth of the emerging markets would do well to focus on those companies that sell goods and services to consumers within the emerging market countries.
This third point is no trivial matter. The attractive emerging market company of yesteryear, exploiting its relatively low cost of labor and an undervalued currency, exported cheap products to an eagerly buying public in Europe or America. This will no longer be the primary case. Rather, today’s emerging market equity gems will be those companies that are focused on selling products to consumers living within the emerging market countries.
There’s an important concept embedded in this investment thesis. Per the World Bank, savings rates in the emerging markets have risen from roughly 10 percent of GDP in the late 1970s to 35 percent of GDP today. While it’s certainly true that poor countries and their inhabitants have become markedly wealthier in the past fifty years, this alone is not enough to drive the investment opportunity before us. More importantly, per capita GDP in many emerging market countries has more than tripled during this timeframe. Whereas an initial increase in someone’s income serves to pay for life’s basic needs, any additional increase above this initial bump leads to a big increase in that person’s consumption of goods and services.
As an example, per capita GDP increased four-fold in China from 2000-2010. In the same timeframe, auto sales in China grew to about 18 million per year. In other words, once per capita incomes rose above a certain threshold in China, the additional income earned by each person was spent on a variety of goods beyond shelter and food — in this case, cars. Therein lies the investment opportunity offered by a burgeoning emerging market consumer economy. Brazil, India, Indonesia and other countries are similarly positioned to produce more spend-happy inhabitants.
Bear in mind that the working-age population in many emerging market countries will be expanding over the next few decades, thereby expanding the number of persons whose incomes will be growing well beyond the income level needed to pay for life’s basic needs. As such, we have the demographic making of an explosion in domestic consumption within many emerging market countries.
What’s more, emerging market equities remain significantly under-owned by the investment community. Standard & Poor’s recently estimated that emerging markets accounted for approximately 80 percent of the world’s population and 50 percent of global economic output, but only 13 percent of global stock market capitalization. Institutional investors need to “get in the game” and increase their proportional exposure to the emerging market consumer over time.
How to Take Advantage of Population Growth
You may be asking, “How do I invest to take advantage of the exploding population growth over the next 30 years?”
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To be sure, you could focus on investing in companies based in the emerging markets that sell goods and services exclusively to its inhabitants. However, lesser oversight of corporate management and directors for some of these companies relative to the oversight in developed world countries, coupled with less stringent rules relating to corporate accounting disclosures, may leave you uncomfortable investing in stocks of these corporations.
Meanwhile, there are many global franchise companies, based in the U.S. or Europe, that sell a significant portion of their goods and services into the emerging markets. The challenge with investing in these global titans, however, is that many local-based companies may better understand the political and economic environment than their multinational corporate competitors. Moreover, such large global corporations are not really “pure plays” on the emerging market consumer, so you must account for the strength of their developed world market businesses as well when making an investment decision.
Investors can turn to actively-managed funds, such as the Aberdeen Emerging Markets Fund and the Virtus Emerging Markets Opportunities Fund that invest in companies with strong corporate and financial quality poised to take advantage of the opportunity in emerging markets. Conversely, a thoughtful compromise between the tensions described above is achieved by simply gaining exposure to the dynamic growth of the emerging markets in a low-cost and well-diversified fashion. This can be done by buying the Vanguard MSCI Emerging Markets ETF or the iShares Emerging Markets Index Fund. In doing so, you will own companies selling products directly to the emerging market consumer such as China Mobile, America Movil, and Gazprom.
For those seeking the transparency of developed market financial information and yet still aiming to attain ample exposure to the emerging market consumer, investing in companies such as Yum! Brands, Unilever, Nestle, Colgate-Palmolive and Domino’s Pizza may make sense.
The world is undergoing tremendous social, political and economic shifts. There’s no denying that emerging market countries, and their consumers, are becoming a bigger and bigger part of the investment landscape. Be sure that your equity portfolio fairly reflects this changing tide.
Watch CNBC's "Closing Bell" with Maria Bartiromo live from the Aspen Ideas Festival on Thursday, June 28 and Friday, June 29.
Note: Luminous Capital may select different independent managers for advisory clients, and client asset allocations and investment strategies may differ based on a variety factors. This presentation is not a substitution for personalized investment advice, and should not be construed as a recommendation to purchase or sell a particular security or use a particular manager. Alan Zafran and his family have positions in the Virtus Emerging Markets Opportunities Fund (HIEMX) and Vanguard MSCI Emerging Markets ETF (VWO).
Alan Zafran is a Partner of Luminous Capital and has served as a financial adviser to wealthy families and institutional investors for the past 20 years. He began his career at Goldman Sachs in 1990 in the Private Client Group. After seven years at Goldman Sachs, Alan and his entire team joined Merrill Lynch in 1997. At Merrill Lynch, Alan helped to build the Private Banking and Investment Group. In May 2008, Alan and his partners launched Luminous Capital. Zafran holds a B.A.S., Political Science and Economics, from Stanford University, Phi Beta Kappa and an MBA from Harvard Business School, 1990.
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