Emerging Markets: A Game Changer

Key Points:

The global emerging markets, led by the BRIC economies, is expected by the International Monetary Fund to continue growing 6% annually until 2016.
GEMs contribution to global GDP rose to 48.9% and is expected to cross the 50% threshold in 2013, a tipping point which will redefine the changing world economic landscape
JP Morgan Research forecasted that GEMs will be contribute about 48% of global consumption in 2015.
Generally, urbanisation and industrialisation places a demand on steel and coal, of which GEMs consumed 77% and 69% of the world’s share respectively in 2010.
Should your portfolio exposure to such fast growing region is disproportional to its global share, it will indirectly constraints its potential to access to world’s fastest growing region.

The dynamics of world commerce is increasingly influenced by global emerging markets (GEMs), especially after the 2008 global financial crisis. There is gaining momentum in the shift in economic power to global emerging markets given that developed markets (DMs) are still mired in weak recovery, and even mild recession especially in the Eurozone.

The prescription of austerity measures and spending cuts in the DMs are necessary for household deleveraging but business activities will certainly be depressed for the near future. In contrast, GEMs are expected to continue experiencing rapid growth over the next few years, although to a certain extent bogged down by the slowdown in external demand and international trade.

Reason #1: Robust GDP Growth

The GEMs, led by the BRIC economies (Brazil, Russia, India and China), is expected by the International Monetary Fund (IMF) to continue growing 6% annually until 2016 (see Chart 1) compared with a mere 1.5% to 3% sub-par growth in DMs. The net effect: world GDP growth of an average of 4.5% per annum in next 5 years will mainly come from GEMs.

Chart 1: Global GDP Growth – DMs vs GEMs

Reason #2: GEMs Shares on Global GDP Reaches Tipping Point

Another way to show the rising economic influence of GEMs is to look at GDP after adjusting for purchasing power parity (PPP). PPP suggests a different currency exchange rate based on the price of the same amount of goods and services in different countries. For illustration, 100 units of air purifiers costs USD10,000 in US while in Japan, this would cost JPY600,000. Hence, the PPP exchange rate would be JPY60 to the USD instead of market rates of around JPY80 to the USD. This means that the yen is actually stronger against the USD after taking into account the PPP.

In 2000, GEMs only accounted for 37.2% of the global GDP while the rest was contributed by the DMs. Fast forward to last year, GEMs contribution to global GDP rose to 48.9% and is expected to cross the 50% threshold in 2013, a tipping point which will redefine the changing world economic landscape (see Chart 2). Investors will need to place more weight on GEMs in their portfolio.

Chart 2: Share of Global GDP (Purchasing Power Parity)

Reason #3: Higher Investment in GEMs Implies Higher Growth Rate

Investment, and we mean the economic kind, is the essential process of utilising factors of production (capital, labour, entrepreneurial activity, land and technological advancement) to transform to the value added goods and services.

Studies have shown that there is a strong correlation between investment and economic growth. Reason is that higher rates of investment implies a higher accumulation of physical capitals such as building, equipment and machinery which serves to generate higher growth rate. It partly explained why China and India, whose respective investments were 48.7% and 37.6% of GDP respectively (see Chart 3), are able to deliver superior economic growth rates of 10.3% and 7.3% on average respectively since 2000

However, the key risk is that overreliance on investment might be a destabilising factor as investment tends to be cyclical and sensitive to business activity, and also creates excess capacity in the real economy. Having said that, an economic model rebalancing from investment to consumption-driven as outlined in China’s 12th Five-Year Plan will help to mitigate the risk of overinvestment in China particularly.

Chart 3: Investment Share of Domestic GDP

Reason #4: GEMs Global Consumption near DMs in 2015

Emerging markets are not only able to produce more cheap and satisfactory quality of goods and services to developed markets, their growing appetite for goods and services is helping the world to cushion the faltering demand from DMs. The consumption vacuum left by belt tightening of consumers in DMs is expected to be filled by demand from GEMs consumers. JP Morgan Research forecasted that GEMs will be contribute about 48% of global consumption in 2015.

Chart 4: Global Consumption – DMs vs GEMs

Going down in detail to energy consumption, Chart 5 shows how much of primary energy is consumed by the GEMs vis-à-vis DMs. Generally, urbanisation and industrialisation places a demand on steel (for infrastructure and housing purposes) and coal (for electricity power generation), of which GEMs consumed 77% and 69% of the world’s share respectively in 2010. According to Organization of the Petroleum Exporting Countries (OPEC) forecast on world oil demand, GEMs will marginally overtake DMs to reach 50.4% of total world crude oil demand by 2015.

Chart 5: 2010 GEMs Share of World Energy Consumption

What To Expect?

The GEMs region is near the turning point of a 50% share of global economic output and global consumption. Should your portfolio exposure to such fast growing region is disproportional to its global share, it will indirectly constraints its potential to access to world’s fastest growing region.

In our Recommended Portfolio for balanced investors, our geographical allocation in GEMs equities (including Asia ex-Japan) is 50% of the equity portion, indicating our strong conviction on this region. With game-changing economic growth, owing to rising disposable income, huge young population and abundant natural resources, we recommend investors to consider having an exposure to GEMs, if they haven’t yet done so.

The Research Team is part of iFAST Capital Sdn Bhd

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