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Who is the largest, most successful emerging market? – Part III

The flag gives it away of course…. and it is a surprising if not a controversial choice. After all, how can the greatest, largest market of capitalism be only ‘emerging’?

Simple; all markets are now emerging in this next phase of capitalistic and technological evolution. The Fourth Industrial Revolution is changing many aspects by which countries, industries and companies will succeed and in how. In doing so the well-established means of assessing these changes will also be subject to change. Benchmarks, assumptions and key ‘measuring sticks’ are all impacted. Historical facts are still useful but not as sacrosanct as they once were moving forward.

It is simple but not easy to evaluate who will be the new beneficiaries. This is because the change in value creation is happening in fits and starts and not in a universal way. People and institutions are also naturally resistant - even threatened by such change and this is where Insync sees the opportunity. We are not.

Emerging versus Established economies are not as important groupings as to those that are well placed for this Fourth Industrial Revolution and those that lag or are deficient. Big or small, well developed or not is no longer the essential differentiator it once was. In parts I & II we identified the 7 crucial drivers for future success: these being:

  • Demographic momentum across a variety of factors

  • Knowledge and technology superiority

  • Business ‘friendly’ regime

  • Strong corporate governance

  • Ability to adapt and transition

  • Superior capital access

  • Significant Megatrend exposures

A powerhouse in world economics it makes up over 50% of the MSCI index. The USA has;

  • Population growth still increasing with its workforce relatively steady. It’s on-track to grow slightly faster than the world population rate for the next 20 years.

  • 38% of its GDP emanating from knowledge and technology-intensive industry. It generates the largest share of R&D-intensive industry output globally.

  • The most business-friendly regulatory regime compared to other major economies (World Bank). It is also ranking at the top for the ease of doing digital business (42 countries), encompassing market sophistication, supply and accessibility of data, and for institutional boosters for the digital economy.

  • Highly adaptable abilities with both cultural and legal traits embedded in its ‘DNA’ that enable it to falter, fail, learn, renew or improve and then move forward.

  • Strong corporate governance and capital access with the “cash return”, measured by dividends + buybacks as a percentage of market cap, being the highest among major nations. The gap between buybacks between the USA and Europe is huge; with European buybacks at a tiny 5% compared with the USA at 25-30%.

It is the USA’s significant megatrend exposure that makes it shine as THE emerging market. Megatrends create 'tailwinds' for preeminent quality companies (supported in the right nation) that extends their success beyond what investors typically figure into their old-way assessments. They are characterized by three things:

  1. Disruptive - upsets the status quo in an industry

  2. Persistent - proven to endure challenges to its survival

  3. Long term - high likelihood of lasting at least ten years (a long 'runway')

By example some of the most powerful megatrend beneficiaries sit within the healthcare and technology sectors. When you look at the structure of the various stock market indices it becomes apparent that the US has the highest share of “high value” sectors. Most other economies tend to have broad exposure to ‘deep cyclicals’ - Australia a primary example.

Over 48% of the MSCI US index is exposed to the information technology, health care and communications services sector. This compares to 25% in the MSCI ex US index.

Are investors undervaluing innovative companies in the United States because they don’t see it as THE emerging market? Investors have for several years been citing the over-valuation of the US market and the under-valuation of other markets most notably Europe and Asia. It’s based on the historical assumption that the measures and benchmarks of value apply the same across all nations. Second, it assumes that those old measures remain viable in assessing how the now dominant industries in the 21st century create value. The new-age IBM, GE, BHP and Citibank goliaths are heavily weighted in their expense lines and focus on advanced technology, people, R&D and brands.

To simply measure the quality based sustainable profitable growth of these businesses with simple ‘old-world’ measures (such as P/Es) leads investors to draw wrong conclusions. They fail to fully capture the value creation benefits of these intangible assets looking forward. As shown in the MSCI charts above, the United States has the highest exposure to these high value sectors. Therefore, it deserves to trade on higher valuations relative to nations not exposed as much to these megatrends and that lag in the 7 key characteristics for future success.

By all means have investment funds that rely on the old way of thinking; but can you afford to not include the manager with a 10-year record of strong success in viewing the future differently for the returns you seek?

Insync’s portfolio of profitable growth companies benefiting from global megatrends currently trades in excess of 33% discount to their intrinsic value adjusting for the value creation being generated by their investments in innovation. Insync has 10 years record of strong success in utilising this approach.

Disclaimer Equity Trustees Limited (“EQT”) (ABN 46 004 031 298), AFSL 240975, is the Responsible Entity for the Insync Global Quality Fund and the Insync Global Capital Aware Fund. EQT is a subsidiary of EQT Holdings Limited (ABN 22 607 797 615), a publicly listed company on the Australian Securities Exchange (ASX: EQT). This information has been prepared by Insync Funds Management Pty Ltd (ABN 29 125 092 677, AFSL 322891) (“Insync”), to provide you with general information only. In preparing this information, we did not take into account the investment objectives, financial situation or particular needs of any particular person. It is not intended to take the place of professional advice and you should not take action on specific issues in reliance on this information. Neither Insync, EQT nor any of its related parties, their employees or directors, provide and warranty of accuracy or reliability in relation to such information or accepts any liability to any person who relies on it. Past performance should not be taken as an indicator of future performance. You should obtain a copy of the Product Disclosure Statement before making a decision about whether to invest in this product.

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