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Benefits and Pensions Monitor

Emerging Markets: The Role Of China And India

By: Jonathan Passmore

Emerging markets have achieved greater economic stability than at any time in the past. As a result, investors continue to turn to emerging market portfolios, using them with the objective of increasing overall returns while diminishing risk through diversification. For those who are considering such investments, special attention should be given to China and India, which are likely to represent the two dominant players in the emerging markets universe for the next 50 years.

Two Major Developments
Major events occurring recently in China and India have contributed to their emergence in the global economy.

In China, land reform legislation has culminated in one of the largest asset privatizations and ownership redistributions the world has ever seen. As part of this reform, the government has started to allow China’s peasant farmers the leasehold right to 30 years of land use on plots they previously could not claim as their own. Farmers have now gained the incentive to make long-term commitments to their land, leading to greater investment, cultivation of plants with longer life spans, and potentially the ability to monetize their land asset values should they decide to migrate to an urban area.

Almost simultaneously, foreclosure law reform has been underway in India. Historically, one of India’s biggest problems has been the non-repayment of bank loans (representing about three per cent of the economy). Even loans backed by collateral would go unpaid, given the lack of an effective mechanism for banks to collect their collateral when lenders were in default. As a result, the issue of ‘squatters’ rights’ has been a major problem. India’s new, more effective foreclosure law was successfully tested last April in the Supreme Court and this new development should go a long way towards unlocking India’s ‘dead capital’ and encouraging lenders to accelerate risk-based lending.

These two emerging market developments, the affirmation of individual property rights and the recognition of the risk and reward-based bedrock principles of capitalism, will affect roughly 40 per cent of the world’s population and should, ultimately, prove to be key catalysts to solidify and accelerate the impact of China and India on global growth.

The Impact On The Rest Of The World
As China and India continue their rapid growth trajectories, virtually every country around the world will feel their impact. China and India will need to buy and import significant quantities of goods and services from around the world – particularly commodities and basic materials, but many other goods and services as well.

The soaring demand stemming from China and India is already influencing economic development in other countries, including other emerging market countries. For example, with its 10 per cent GDP annual growth rates and a population of more than one billion people, China is becoming a vociferous consumer of resources such as steel, oil, aluminum, and iron ore. Resourcerich developed countries like Canada and Australia, which produce many of the world’s commodities, have benefited, but other resource-rich emerging market countries are also prospering, notably Brazil, Russia, and South Africa. With India’s demand growing in a similar fashion, this worldwide trend looks likely to continue.

China and India also pose a threat to the rest of the world by producing goods and services for sale abroad, often at more competitive prices. Their products include many types of processed goods, light manufacturing, and, in India’s case, IT, call centres, and an increasing number of outsourced medical and legal services.

In the future, many companies will look to access these two markets and their deep labor pools to increase their business efficiency. These developments, facilitated by growing technology, will dramatically change the landscape of the global economy.

Investing In China And India
Dedicated China and India equity portfolios may not fit many standard investment risk profiles. However, plan sponsors are increasingly looking for additional alpha in a challenging investment environment and should not ignore the long-term potential for attractive returns represented by these two emerging economic powerhouses. Their higher growth and levels of economic activity may offer superior returns over time, subject to potentially higher degrees of volatility and downside risk.

In our view, exposure to China and India is appropriate for broad, welldiversified portfolios. Even limited exposure to these countries offers the potential to enhance returns and help investors achieve their stated goals.

Jonathan Passmore is senior vice-president and international equity portfolio manager at GE Asset Management.

Some of the information in this article is based on forwardlooking events and actual experience may vary. In no case should any of the information presented be deemed to constitute investment advice or a recommendation to buy or sell any securities. Information presented is subject to change and GE Asset Management shall have no obligation to provide notice of any change.

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