InvestmentsMay 31 2013

Economic growth comes from higher spending

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Economic growth in America averaged 2.5 per cent a year between 1960 and 2000 but, excluding oil producers and such like, there were some 20 countries that grew faster than that, by an additional 1.5 percentage points a year.

Failure of emerging market investment

What this means is that the world has become more equal and richer and, even more importantly, that ordinary people in their billions can now envisage a life for themselves far from the misery of bare subsistence. Given this, it may seem strange that investors in emerging market economies have done badly in recent years, but this is exactly what has happened.

There are explanations for why this is the case. Investment enthusiasm for the new is always overdone and, counter-intuitively, there is no correlation between gross domestic product (GDP) growth and stock market performance. Investors need to concentrate on basic markets, rather than on economies; not on hard commodities, such as metals, that are necessary to industrialisation, but soft ones like food grains or necessary elements for life like water.

More people, less tillage

By 2050, the world’s population is expected to have grown from the current 7bn to 9bn, mostly in the emerging world. Demand for the basic necessities of food, water and housing will all rise sharply, but supply will lag.

Furthermore, as a Sarasin & Partners quarterly report pointed out, as populations grow, so does land degradation, urbanisation and pollution. These three factors reduce the available arable farmland, with hectares of farmland per capita falling from 0.38 per person in 1970 to an estimated 0.13 per person today.

One hectare of tillage [land suitable for growing food] will feed 19 to 22 people with vegetables; if used for cattle, it will barely feed two people. Yet prosperity – and the industrialisation of the food industry through companies such as McDonald’s and KFC – means that meat eating becomes ever more enticing and affordable.

People need food that titillates their taste buds as well as nourishes them. Do-gooders who assure the poor that if the money is not there they can subsist on beans for steak do not understand this. From basic staples to vegetables and fruit to protein and patisseries there is a human hierarchy of food needs.

Investing in food

Chart 1 shows chicken consumption in different countries of the world, and the US figures come in addition to similar quantities of beef hamburgers, soda pops and sugared doughnuts.

What it also shows is the remarkable productivity and efficiency of American agriculture; 50 years ago, the middle-class dream was of roast chicken every Sunday but that is now a staple for everyone. Therefore, one way to invest is to follow the example of Warren Buffett, who has just bought the food processing company Heinz.

Food companies are seen as boring and predictable, but companies like Nestlé, Kellogg’s and Coca-Cola are good inflation hedges – because inelastic demand for their products means pricing power in the supermarkets – and good dividend payers as well. The best way to do this is through an ETF investing in real shares, not derivatives, but investors should check the portfolio makeup.

The reason for this is because food manufacturing companies may be predictable, but weather and farming are certainly not. Many of the agricultural ETFs use the natural seasonal swing of the farming cycle to speculate rather than invest; when crop yields are expected to be good, they sell the food crops and buy the fertiliser and equipment companies expecting the cycle to turn.

As a result, Oxfam and other environmentalist groups have attacked some of these ETFs as factors in the rising cost of food, accusing them of harming the poor in these times of austerity.

Not all analysts agree with Oxfam’s conclusions and instead say rising costs are not the result of speculation but demand out-running supply. Either way the food industry may have problems with the medical profession. The industrialisation of food, with the consequent surfeit of sugar and salt, has caused an epidemic of obesity with skyrocketing care costs falling on over-stretched health budgets.

Opportunities in the emerging world

The real opportunity is not the over-developed food market of the western world, but the £7.8tn food sales in the developing world. These are growing by some 8 per cent a year in volume alone – or a doubling every 10 years – but very much faster than that in terms of the value chain, as populations increase, become richer and improve their diets by trading up.

Only 40m of Indonesia’s 240m people can afford a Topbar, a tiny chocolate confection selling for the equivalent of US$ 0.05. Yet the local manufacturer is convinced its market will more than double in size in the next few years and is one reason why it is a holding in a specialist fund launched by Sarasin & Partners in 2008 called Sarain AgriSar. Table 1 shows how it has performed since launch.

At another extreme is the Swiss company Syngenta. Henry Boucher, manager of the AgriSar fund, says this company is at the heart of efforts to improve the productivity of agriculture in Asia.

Syngenta has an Indian sales force offering tiny packets of seed and fertiliser to local farmers, but the seeds are bred to suit local conditions, the fertiliser is exactly measured and both are accompanied by simple but comprehensive visual instructions for a predominantly illiterate market.

It is hard and slow work because farmers are naturally – and rightly – cautious of innovations. But the resulting fourfold increase in crop yield persuades the farmer that the price is worthwhile and neighbouring farmers begin to experiment too.

Feeding the world

Sarasin AgriSar can hold commodities as well as shares, although chooses by preference companies to cover the variety of investments that will be needed to upgrade a backward yet vital segment of the world’s economy – from field, to harvest, to store, to transport and then to market. Some 30-50 per cent of food bought in the western world is currently wasted, but the percentage is probably higher still elsewhere.

In the West it is due to the greed and ignorance of the consumer, the inefficiencies of supermarket stock control and the idiocies of marketing. It is reported that about one-third of British vegetables are thrown away each year for failure to meet ‘image’ standards.

Elsewhere it is more fundamental. Too much subsistence farming, lack of secure storage leading to rotting crops, poor transport with inadequate roads, insufficient pricing information, too few markets and, even – at the end of the line – still inadequate refrigerated storage.

Without significant improvements, populations will starve and governments fall. This is a stock-pickers market, with managers willing to predict revolutionary change, which is why it is worth paying for the AgriSar fund’s forward-looking management.

This is Russell Taylor’s view on 7 May 2013. He will be happy to answer readers’ letters arising out of Investment Spotlight.