Investment and population - is bigger going to be better?

Tom Stevenson examines investment implications as the global population hits the seven billion mark.

The global population has hit the seven billion mark, having grown by a full billion people since 1999.

The overwhelming driver of this growth has come from developing countries and this will remain the case – as will the general trend for urban populations to expand at the expense of rural populations. 

This has many implications for investors as the world’s consumer base expands rapidly and the demand for finite resources increases. 

The demographic paradox

The split between population growth in the developed and developing world is stark. Much like their economic growth rates, developing countries’ populations are growing considerably faster than developed ones.

This is because developed countries have already undergone a demographic transition: a progression from the high birth and mortality rates of a pre-industrialised economy to low birth and mortality rates. The enablers have been the rising wealth and better healthcare which allow people to live longer.

This is the demographic paradox: as a nation’s wealth increases, its birth rate falls – a phenomenon that has prompted some people to point out that a government’s best tactic to tackle a high birth rate is to encourage economic growth.

Many developing countries are, of course, experiencing faster economic growth which is increasing the amount of people in the global middle class.

In time, with continuing economic growth, we can expect many emerging economies to undergo their own demographic transitions as families protect their wealth by having fewer children.

Some implications

First and foremost, a larger global population increases the demand for finite resources, particularly food, water and energy.

These resources have already experienced strong demand and price increases in recent years as emerging markets have grown and begun to consume – not just produce – a growing share of the world’s resources.

The investment implications are myriad: we highlight the impact on food and the potential for companies to sell to a rapidly expanding consumer base.

More people, more food, more fertiliser

The World Bank estimates that demand for food will rise by 50 per cent by 2030, largely as a result of population growth, as well as rising affluence and changing diets.

Population growth poses a serious challenge for food production, particularly in light of the fact that the amount of arable land in the world is being reduced due to industrialisation and urbanisation.

With a growing number of mouths to feed yet declining arable land, we have some strong fundamentals that point to the need to increase crop yields. However, changing diets in the developing world add an extra dynamic to the mix.

Economic growth and rising affluence in developing countries is allowing huge numbers of people to improve their diets by adding more protein, namely meat and dairy products. The demand for more protein has a significant indirect impact on grain.

Livestock is reared on grain feed, making production heavily resource intensive. Indeed, it takes seven kilograms of grain to produce just one kilogram of meat. In a world growing ever hungrier for meat, the need for more grain and better yields is clear.

Much of the arable land in the developing world is inefficient and significant gains in yields can be made via the use of fertilisers. Higher commodity prices mean that farmers are making healthy profits and can afford to buy fertilisers. The demand for, and the price of, fertiliser is likely to grow strongly over the next decade.

A number of stocks can be expected to benefit from the world’s growing need for food. Fertiliser stocks are one of the most direct beneficiaries of the need to increase crop yields.

Stocks such as Potash Corp, Uralkali, Industries Qatar and Mosaic outperformed significantly during the last episode of food inflation, when many of these themes first caught investor attention. Valuations are now more reasonable, yet the long-term fundamentals remain very attractive. 

A consumer revolution

Over the next few decades, the number of people considered to be in the ‘global middle class’ is projected to more than double, from 430 million in 2000 to 1.2 billion in 2030 (or from 7.6 per cent of the world’s population to over 16 per cent).

Most of the new entrants will come from just two countries – China and India – where private consumption has been growing rapidly in recent years. In fact, to put the source and magnitude of this growth in perspective, the World Bank predicts that by 2030, 93 per cent of the global middle class will be from developing countries. 

This bare fact alone is the reason why companies from all over the world are at pains to develop a presence in emerging markets. They want to capture rates of consumption growth that are unimaginable in mature western economies.

As incomes grow, consumption patterns change as the proportion that is spent on basic necessities diminishes. And as the proportion of income spent on discretionary consumption rises, so too does the allure of having the coolest fashion items or the latest mobile phone.

Changing diets 

There is a clear relationship between higher income and changing food expenditure. As incomes rise, the percentage of income spent on food declines as discretionary spending rises.

However, the actual value of food spending increases as consumers trade up to higher protein and more expensive foods such as meat and dairy. Food producers like Brazil Foods (one of the world’s largest producers of processed meat) and dairy producers like China Mengnui are examples of the many local beneficiaries of this theme.

Meanwhile, Nestlé seems set to be a beneficiary of growth in the confectionery market as emerging consumers develop a ‘sweet tooth’.

Beverages

Due to the relative lack of safe drinking water, emerging markets like Brazil and Mexico are among the world’s largest bottled water customers by volume.

In Mexico bottled water consumption per person is twice that of the US. Companies like Danone, the global leader in bottled water by volume, are benefiting from this demand. Soft drink and beer consumption is also increasing and both Western and other companies like Coca-Cola, Pepsico, Ambev and Grupo Modelo are seeing strong growth in revenues.

Female spending patterns

Female labour participation rates have grown steadily in emerging markets in line with economic growth. Rates of female participation in East Asia are higher than in developed economies.

This is significant as women have distinctive spending patterns including the purchase of cosmetics, fragrances and toiletries. Brazil is already the world’s third largest market for these products and Natura Cosmeticos and Genomma International are two of the leading domestic firms.

Household goods and electricals

Higher incomes are also allowing the purchase of a range of household goods from freezers to televisions and computers. We have identified Gome as a leading electrical retailer in China that is well placed to compete against local and international brands.

Automobiles

Many new entrants to the emerging middle class are increasingly able to purchase their first car assisted by the availability of credit in most emerging markets, while higher income consumers particularly in China are trading up to western European models made by BMW and Volkswagen.

Brilliance China Automotive Holdings is BMW’s Chinese partner and likely to benefit from the German company’s fast sales growth in the country.

BYD is another interesting domestic car company in China, which is innovative in the electrical segment.

Financial services

Penetration of financial services is low relative to developed markets but growing rapidly. Sberbank in Russia and Banco Bradesco in Brazil are taking advantage of the growing market for simple mortgages and loans. 

Advertising

While western consumers grow a little resistant to direct advertising, forcing companies to be ever more innovative, multinationals are using time-tested aspirational advertising to build their brands in emerging markets. For instance, brewing company Diageo has made great strides in the promoting their Guinness product in African markets. Nigeria has recently become the largest market for Guinness in the world by volume.

Internet

Internet access is growing very quickly in developing countries, with many consumers accessing the internet solely on a smart phone rather than a personal computer.

Internet penetration in China is already relatively high in the industrialised coastal areas but is expected to hit 51 per cent nationally in 2013 from 35 per cent currently.

Tencent is the largest social networking site in China with a 75 per cent market share of China’s internet user base. It offers a wide range of services that have strong monetisation potential. There is a world of opportunity out there.

Tom Stevenson is the investment commentator at Fidelity Worldwide Investment.