For this month’s article I’m going to range far afield, looking at China and India as well as North America. Right now, there’s an Asian frenzy going on. India is coming up fast as an economy: it’s experiencing explosive growth, has plenty of young workers, is building factories everywhere, and has created a thriving outsourcing industry.
And nowadays it seems that almost everything we buy is manufactured in China. Chinese stocks are trading at huge valuations: Petro-China, for instance, trades at twice the valuation of Exxon (in spite of having only half the reserves and cash flow, not to mention impenetrable accounting). It’s worth noting that China’s market cap has doubled in the last two years. While some of that is actual growth, much of the increase is stocks being bid up by eager investors.
By contrast, developed countries such as the U.S. and Europe seem to be swimming in bad news: credit crunches, aging labour forces, stifling legal environments and languishing stock markets.
Only here in Canada have we largely escaped stock market declines, thanks to our natural resources. Resource stocks have been bid up around the world; and Canada, a favoured resource market, has seen its currency and stock prices keep ticking along nicely. In fact, in 2007 our dollar led the world. Our stock prices have only recently begun to pull back as investors worry about recessions elsewhere.
In terms of investments, then, is the most sensible thing to divide one’s money between Canada, and these new tigers in China and India? Before charting any particular investment course, let’s ask “Where’s the money right now?”
To find the money take a look at the capitalization of stock markets around the world. I’ll warn you before we start, though: one challenge is that the numbers get pretty big. We humans generally have difficulty putting large numbers into any real perspective. (That’s why lotteries are so successful; for most people a one-in-ten-thousand chance feels the same as a one-in-a-million chance.)
Accordingly, when I tell you that the world’s market cap is around forty trillion dollars, I have no real idea of what 40 trillion actually looks like. Here’s one way to visualize it, though: if one of those old-style school desktops represented a trillion, then the hole for the inkwell would be about 15 billion.
China and India both together account for about 2.5 trillion of market capitalization. Canada is about 2 trillion, as is Hong Kong. So if that old desktop were the whole forty trillion, then China and India combined are only twice the size of the ink well.
What about the U.S., Japan, and Europe – aren’t those guys just about fading away? Well, France (long considered the model of bureaucratic inefficiency) has a market cap of 2 trillion, or the size of China. The U.S. is 16 trillion, and Japan is 5 trillion. That’s half the desk right there. It’s obvious that those countries still have a lot going for them.
Still, it’s no secret that developed economies are expensive places to operate businesses. There’s a good reason why so many now outsource to China or India a lot of the work we used to do ourselves. It’s the same reason we hire people to wash our cars or shovel our driveways: we could do it, but we prefer to get paid more for doing something more worthwhile. When an iPod is assembled in China, for instance, only about $3 of its $300 value goes to the Chinese manufacturer. The other $297 goes back to California.
It’s often worthwhile to gain this kind of perspective when building a portfolio. As always, diversification is the best policy. The developed world may not be very exciting right now – but it’s probably where most of your money should be.
Alan MacDonald is an investment advisor who helps high tech entrepreneurs make smart decisions about money. Contact Alan at Alan.Macdonald@RichardsonGMP.com
