Demographic dollars

Demographics is one of the most important investment drivers of our time … but we’re not paying enough attention to it.

Now, a spattering of funds looking to profit from changing demographics are finally putting the spotlight on this most dramatic development.

The global population is expected to reach 8 billion by 2025 and 9.6 billion by 2050, according to the United Nations. Most of this growth will come from developing countries, where the population is expected to surge from 5.9 billion this year to 8.2 billion by 2050. This explosion of growth will see exceptional levels of urbanisation as countless numbers descend upon cities.

Meanwhile, the “global middle class” will also swell in coming years. By 2030, the World Bank estimates that 1.2 billion people will be regarded as middle class. Of this group, 93% will be from developing countries.

This rising middle class will want to spend their hard-earned money. They’ll spend on cars, fashion and electronics, but they’ll also spend on health care. At the same time, developed regions will be spending more on health care as our “grey army” grows in number – by 2050, one in three people in developed countries will be aged 60 and above, according to the UN. This is up from one in five today.

Opportunities for investors

These major demographic shifts present a unique opportunity for investors. Forward-thinking fund managers are leading the way.

Fidelity and Schroders are among a handful of fund managers now offering products that seek to capture some of the growth – and profits – from this next global revolution.

“Demographics are the most powerful forces we will see in our investment lifetimes,” says Fidelity fund manager, Hilary Natoff.

Fidelity’s Global Demographics Fund holds companies that fall into three primary demographic megatrends: global population growth, the emerging middle class and ageing populations. Within these three megatrends, four structural growth themes are the focus: the rising demand for resources, emerging market consumption growth, changing lifestyles and behaviours, and age-related spending.

Unlike macroeconomic trends that occur by chance, demographic trends are easier to predict, creating clear opportunities for investors. The fund has a universe of about 1,000 companies that operate in a wide range of industries, including the obvious: health care, consumer staples and financials.

The fund, which is open to retail investors, is split 60/40 between the “winners of today” and the “winners of tomorrow”, thus spreading the risk. Fidelity soft-launched the fund in Australia in November 2012. The return since inception is 31.5%, slightly below the benchmark MSCI All Countries World Index return of 32.1%. It is currently the only Australian-domiciled demographics fund.

Capturing the demographic play

Investors keen to profit from demographic changes will no doubt home in on investments in health care and financial services, as well as resources such as food, water and energy.

Health care stocks feature prominently in Fidelity’s demographics fund, making up almost 50% of the portfolio, followed by consumer staples (20.6%) and consumer discretionary (16.4%). Financial holdings make up 5.2%.

The majority of the companies held in the fund are based in the US, but there are a small number of Australian stocks on the books, including blood products maker CSL.

Natoff says the appeal in CSL over its rivals is the work the company is doing on research in specialty products from fractionated blood, for which the gross margin is very high.

“The potential from the pipeline can double current profit over the long term,” she says. “The certainty of the sustainability of CSL over a 10-year view is really high, despite the fact that the near-term multiples may be high. The discounted cash flow on CSL today gives significant upside from here, and that’s why we own it,” she says.

Other Australian holdings include Invocare, Ramsay Health Care and Ansell Ltd.

Cochlear was part of the portfolio for a time but was offloaded because of concerns of falling market share and an increasingly competitive environment.

Navitas was sold recently because, while education is a great industry to invest in, “it’s difficult to find stocks that play to the structural theme,” says Nicola Stafford, who co-manages the fund with Natoff.

A balancing act

While demographic changes can be forecast with a relatively high level of certainty, that doesn’t mean rushing in and buying stocks in every sector you think will benefit. Timing is an important factor.

Investors wanting to play to this theme should aim to maximise the structural growth while at the same time minimise the factors that are not driven by demographics. It’s a delicate balancing act.

There is constant talk in Australia about positioning ourselves for the “Asian Century” and developing a “food bowl” to double the country’s agricultural output. While we know that there will be incredible demand for resources like food and water in the coming decades, Fidelity at least is cautious on agricultural stocks.

“An attractive theme doesn’t necessarily necessitate a position in the fund,” says Stafford.

“We don’t have a large holding in agricultural companies because of the cyclicality of the sector and where it is in the cycle right now,” she says.

The fund holds just one agricultural stock in its portfolio right now: American multinational crop group, Monsanto Company.

The rise of women in the workforce with more spending power is an attractive theme that Fidelity thinks is worth investing in. The fund currently holds positions in Estee Lauder and Botox manufacturer Allergan, a company which Natoff and Stafford say has become “a very interesting franchise with lots of longevity”.

Endologix, a manufacturer of stents for abdominal aortic aneurisms, which occur when part of the large blood vessel known as the aorta widens within the abdomen, is another holding and classed as a ‘winner of tomorrow’. “The company is on the cusp of profitability right now, so on a five or 10-year view it would be very valuable,” Natoff says.

The fund may not satisfy the requirements of all ethical investors. The fund has holdings in Heineken-controlled Nigerian Breweries and major tobacco player British American Tobacco (BAT). Nigerian Breweries is one of just two beer distributors in Nigeria and has favourable growth prospects due to the expected rise in discretionary incomes in the region. The fund holds BAT because of strong growth and pricing prospects in emerging economies.

Of course, we can’t know for sure which industries will benefit over the long term when it comes to demographics; new technologies and innovations could have a huge impact on any number of factors.

But the central themes remain the same – the world is getting bigger, wealthier and older – presenting countless opportunities for the long-term investor.