China versus healthcare

by Terence Moll, 7IM

Every December, hordes of financial pundits churn out ‘Year Ahead’ pieces that provide their best guesses about economies and markets in the coming year. ›

It’s stunningly hard to get this right. In the short run the world is highly uncertain; politics, viruses or market crashes often mess up the story. This is why, as long-term investors, we do not pay too much attention to them and are not overly concerned by short-term market swings caused by factors like the Coronavirus.

It can be easier to forecast for the long run. Sometimes it’s possible to identify big picture trends that are highly likely – say with an 80% probability – to materialise in the next decade or so, even if we don’t know exactly when. That’s the beauty of being a long-term investor! Let’s look at two of the big picture trends that are influencing our portfolios.

China Over the two decades ending in 2013, China grew at about 10% per year, which makes it the most remarkable outlier in economic history. No other big economy has ever grown so fast for so long. But China is slowing… the authorities claim growth is running at 6% per year, but private commentators say the true number is lower than this. Its labour force has begun contracting. Productivity growth is drifting down, as its technological advances and educational improvements slow. And authoritarianism and corruption don’t help. We expect China’s growth to fall to 2% p.a. or less by 2030. So what? China is a huge consumer of many commodities – and its demand for them isn’t growing much, if at all. This is one reason why we are pessimistic about commodity prices over the next decade.

China remains a wonderful story for consumer demand, brands and luxuries. But it’s likely to be a wet blanket for the other emerging markets in years to come. While China is in relative decline, many of its neighbours are in fine shape. Growth in India and Vietnam has been over 7% per year recently, and both are trying to benefit from the trade tensions between the US and China. Asia will go on rising for decades yet, even as new winning economies emerge within the region. We have large holdings of Asian equities and debt across all portfolios.

Ageing Another trend we are taking seriously is ageing. In 1950, the average person worldwide could expect to live until the age of 46. By 2019, this had risen to 73. In Italy, which has the lowest birth rate in Europe, one in five people is above the age of 65. Elderly voters loathe inflation, and they turn out at the polls. This is one of the reasons we expect inflation in the developed markets to remain low for as long as the eye can see – politicians spend heavily on the old, and would not dare alienating them. With inflation subdued, a big spike in interest rates is unlikely. Bond yields are so low, though, that we regard them as poor investments right now.

As people age, they spend more and more on healthcare. This makes sense – every extra month of good health is more important to you when you have only a limited number left. This healthcare spending trend is clear in the rich countries, and will increasingly spread through the emerging markets. The middle classes in countries like China, India and Indonesia are also ageing and they also want the best drugs, nursing homes and health insurance in the world. The global demand for healthcare is set to rise and rise, and most of the major companies in the sector look reasonably valued. We expect them to perform well for decades to come, and have a healthcare position in most of our portfolios.

Major Portfolio Themes

US Healthcare: We hold a chunk of our US equity exposure in Healthcare, across most of our portfolios. Healthcare companies should do well out of ageing in the developed markets, and growth and ageing in emerging markets. Prices might be choppy, though, as the US election cycle gets going.

Emerging Market Bonds: Emerging market economies are more stable financially than ever before, led by East and Southeast Asia. Their ability to pay their debts rivals investment grade companies in the developed markets, yet yields are around 3% higher.

US Inflation Protection: The US bond market is pricing in about 1.7% p.a. inflation for the next 30 years. We believe this is too pessimistic, and hold a position that should benefit if US inflation picks up once again.

Alternatives: We hold a diversified basket of alternative strategies that should provide inflation-beating returns over time.

Terence Moll is our Head of Investment Strategy.