Posted by: Richard | February 10, 2010

Regionalism and investments

A great thing about being at London Business School is the diversity of intelligent people.  Sloan Fellows mimic this diversity, with over 20 nations represented bymy 52 colleagues.  This means that instead of wondering “what do they do in Asia, Africa, Latin America, Europe”, I can ask business leaders from those countries, who just happen to sit beside me in class for 6 hours a day!

I’m interested in globalization, and I have wondered whether it was affecting how we invest our money, specifically equity investment.

My starting assumption was that people around the world were investing in global companies on global exchanges (Tokyo, London, New York, Hong Kong) with investment on regional exchanges being less than half (except where mandated by law).  What I found out was very surprising:

1. Every single person I talked to was primarily invested in their local stock market (in many case 100% of the equities they owned were on their national stock exchange).  This surprised me, as I assumed that there are a range of companies that every person would want to own.

2. People used mutual funds / iShares to diversify risk, though even on iShares they were largely local (+/- 50% were based on national exchanges where an iShare option existed).  These large investment vehicles (and pension funds) were the primary investor in foreign markets.

3. People in developed countries were worried about investments in developing countries / markets due to risk (both in return, growth projections and future currency fluctuations).  As a result, they were much more  comfortable investing in developed countries and were very limited to where they wanted to invest in developing countries (India and China).

4. People in developing countries were not that interested in purchasing developed world stocks.  The returns were just not that attractive by comparison to what was happening on their national exchanges.  Risk was not a significant issue, with a roller-coaster ride expected.

5. It is very hard to buy foreign equities everywhere.  In Canada, I can buy US shares, but I need to talk to a specialist to purchase an Aussie mining company or a British Aviation firm.  This is the same everywhere, with mutual funds or iShares the only way to get international exposure.

Before talking to my colleagues, I thought that our investment world was going to converge on a few super-regional exchanges (NY, London, Shanghai) and investors around the world would hold a similar basic basket of shares.  As countries developed and became wealthier, this basic basket idea would drive demand for a core of 100 – 250 global shares as everybody holds a bit of these companies.  This would obviously produce a price premium relative to other shares.  This doesn’t fit with what others have told me.

I am left with the feeling that demographics may remain the most important feature to consider for the next 20 years.  As it stands, developed countries are getting older and we will soon start to see net outflows from Western stock markets as retirees start living on their savings.  This will translate to a reduction in demand and increased supply.  This is not a good place to be.  The flip side is that developing countries with young populations just now starting to save will be looking for investment vehicles for their savings.  Based on my classmates, people will likely use their national stock exchanges to purchase assets.  There will be limited supply of shares and rapidly increasing demand for those shares.  This is a great place to be.

I have long assumed that markets were global and the demographics issues for investors in developed countries would be solved by a whole bunch of new investors from developing countries.  This does not seem as likely a I thought and it might be time to increase my exposure to emerging economies.

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