Guest post contributed by Peter Trofimenko, Chief Investment Officer, Symphonic Alternative Investments
Misinformation and fake news have become common, and the world is developing so rapidly that the information we thought was true yesterday may not be true today. Ten years forward will be radically different, especially in the field of investing. Emerging markets now constitute over 60% of the world economy and their share is growing. Many investors are influenced by misconceptions regarding emerging vs. the U.S. and other developed markets such as:
- The U.S. is the largest economy in the world;
- The U.S. has the largest and deepest public equities market in the world;
- U.S. private sector jobs are more lucrative than government jobs;
- Investing outside the U.S., particularly in emerging markets, is risky.
Fake News #1: The United States is the largest economy in the world. Until relatively recently, this was true. Now, the U.S. occupies either the second or third position in the global ranking of economies (depending upon how you treat the European Union), and this position is rapidly shrinking as China and India are growing much faster, both having joined the top 5 countries ranked by GDP (highlighted in the table below). The growth situation in Europe is even worse than in the U.S. As a result, the IMF concludes that the emerging countries now constitute over 60% of the world economy and their share is growing.
Source: the IMF
Many U.S.-based investors may be oblivious to the rapid changes that have unseated prior realities. We hear a lot about American exceptionalism, broadly shared by both the Democrats and the Republicans, and by most ordinary U.S. citizens. Should the U.S. settle for being number two, or even worse, number three?
The inconvenient truth: The U.S. has lost its number one status as an investment destination and is unlikely to regain it in the near future, given significantly higher GDP growth of China. According to Goldman Sachs projections, U.S. GDP is projected to grow by 2.25% in 2017 vs. 6.5% by China, some three times faster! The Euro area is projected to grow by less than 1.5% in the same period, some five times slower than China. (Source: Goldman Sachs) The U.S. and Europe are lagging behind their “emerging” market peers now and the gap is projected to increase going forward. Based on world developments, investing in emerging markets is the clear path for investment exposure to the future growth on this planet.
Fake News #2: The U.S. has the largest public equities market in the world. This is partially true, for now. If you are talking in terms of the number of publicly listed equities, this is not true. As of December 2016, India has the largest number of listed companies with approximately 7,650 companies listed on the Bombay Stock Exchange and the NSE. The U.S. has the second highest number of listings with around 5,200 companies listed on the NYSE and Nasdaq. China is in the top five with close to 3,050 companies listed on the Shanghai and Shenzhen Stock Exchanges, and is rapidly moving in on the number three slot. (Source: World Federation of Exchanges).
The U.S. today accounts for less than 10% of all listed stocks in the world and this share is rapidly shrinking, as the number of stocks listed in the U.S. is lower than at any time since the 1970s.
On the other hand, if you are talking in terms of total market capitalization, then this is true currently but the playing field is changing rapidly.
The real story here is not about the U.S. but rather China and India. The total market cap in China has grown an astronomical 1,479% from a total of US$418 billion in 2003 to US$6.6 trillion in 2016. This means that in just 13 years China has passed every country in Europe and Japan for total market cap, and that today China’s stock markets are worth more than those of France, Germany, and Switzerland – combined. India has also been growing at an extraordinary rate, and since 2003 its total market cap has grown more than any other country in the top 10 except China.
The inconvenient truth: The U.S. still has the largest stock markets in terms of total market cap, but ranks third in the world in terms of number of companies listed and this share is rapidly shrinking. If you want to participate in the growth of equity markets, you should be looking to India, China and other emerging markets, not the U.S.
Fake News #3: U.S. private sector jobs are more lucrative than government jobs. The chart below highlights the average total compensation for federal government jobs vs. private sector jobs in the U.S.
Source: Downsizing the Federal Government
Moreover, U.S. government jobs now outnumber manufacturing jobs by a massive margin: nearly 1.8 to 1! (Source: The Daily Sheeple) The current U.S. administration announced that it wants to slice 10% off spending and 20% off the federal bureaucracy, part of a broad effort to slash just over $10 trillion from federal spending over the next decade. Promises are much more difficult to keep than to give, especially where government employee trade unions are so powerful.
The inconvenient truth: With federal government jobs as lucrative as these, and the union support as strong as it is, the U.S. will face a major political battle. The markets hate political disruptions and uncertainty in the U.S. while the rest of the world will be watching from the sidelines. Since U.S. government employment far outnumbers manufacturing, the majority of things are now produced in China and other emerging markets. Whoever buys from China (and other EMs) has to pay not only for the goods produced but also for delivery as well as customs duties, etc. – this makes USD go farther in China than in the United States. Also, other costs, including (in all cases) labor and (in many instances) taxes are also lower in emerging markets.
Fake News #4: Investing outside of the U.S. is risky. Many investors live by the axioms of the past and, once accepted, these “truths” do not get revisited. For example, the axiom that it is risky to invest outside of the U.S., specifically in emerging markets, might have been true many years ago, but lately the financial crises that we have been dealing with have all originated in the U.S. and other so called “developed” countries: global financial crisis (started with U.S. mortgage securities), Brexit, Trump election, Italian referendum, etc. In addition, this year we will have tumultuous elections in France, the Netherlands and Germany. Such complacency can easily lead to poor investment decisions.
Emerging markets have many attractive attributes that should contribute to strong future growth, including innovative government reforms, favorable demographics, growing consumption, relatively low debt levels and room for productivity gains. Moreover, the U.S. dollar has different buying power in different areas of the world. For a typical emerging market, the U.S. dollar buys more goods and services within the home country than in the U.S. A company located in an emerging market can actually earn less NOMINAL dollars to gain more REAL benefits.
The inconvenient truth: Emerging markets are on the rise as a direct result of innovative government reforms and seismic shifts in economic models, particularly in leading nations such as China which is transitioning from being the world’s leading provider of cheap exports to a consumption-driven economy. These factors have boosted growth and activity in the capital markets of emerging countries.
Additional information on Symphonic Alternative Investments at http://symphonicfunds.com/. Read prior Hedge Connection blog article “Global Investing As We Enter The New Technology Paradigm,” watch Shedding Light on Emerging Markets video by Peter Trofimenko, created during Global Fund Forum, October 2016 in Bermuda.