After all, that’s where populations are growing; where the West’s manufacturing is migrating too; and where new middle classes are emerging. Right? Maybe. Or maybe not. The latest Barclays Equity Gilt Study suggests something rather different. Population growth is not much higher in emerging markets than in developed ones, for example, so the idea that demographics can drive growth in the latter but not the former holds no water.
More importantly, however, technological progress is in the process of flipping from “supporting faster emerging-market growth through globalisation to undermining it”. Until recently it made sense to shift your manufacturing abroad: you could take advantage of cheap labour costs, but use technology to manage the complicated supply chains and logistical challenges that came with doing so.
But if you are looking at things afresh today, it doesn’t make so much sense. Automation means it is often cheaper to use robots at home than people abroad. And if that is so, why make your product thousands of miles away from the market you plan to sell it in? There’s a demand imperative here too: modern consumers like a little local specialisation – and that needs to be done locally. Go to an Adidas store in Germany and you can have custom-fit trainers 3D printed in the shop. Finally, says Barclays, modern automation requires “local collaboration”: robots, workers, managers and engineers need to be on site to figure out kinks together. That creates an opportunity cost to outsourcing.
The upside to Trump’s trade war
This localisation (or at least regionalisation) of US supply chains back onshore is already under way, but it could also soon accelerate. Think about Donald Trump’s tariffs, says Gavekal Research’s Charles Gave. If this means that firms that want to sell in the US have to produce in the US, produce in the US they will. This will have several pleasant effects (for the US). It will push up wages for those workers who are used (hooray!) and boost economic activity overall.
However, it will also “leave the rest of the world with huge productive overcapacity” and see a sharp fall in returns on invested capital as a result. Given that stockmarkets are very much “in the business of measuring returns on capital around the world in real time”, where does that make you want to invest? The answer is certainly not emerging markets. Look at it like this, says Barclays, and you might think that the trend for “underperformance of emerging market assets and currencies that began in 2013 is set to continue over a multi-year horizon”.
In this week’s magazine, Matthew Lynn does not entirely agree, but I find the case pretty compelling. If that leaves you thinking that now might not be the time to up your emerging market exposure, Matthew Partridge gives his view on UK banking shares; Max King gives his thoughts on the value in European markets and the fund he would buy to benefit; we explain why you shouldn’t be too gloomy about UK equities; and Richard Beddard gives his take on an interesting firm operating in two very different markets.