Investment officeJune 24 2020

Chief Investment Officer Update: Shifting Sands

3 mins read

StJohn Gardner

Chief Investment Officer

Economics students will recount how, in a financially optimised world, goods should be produced at the place of lowest cost when taking delivery logistics costs into account. The Japanese took this one step further with their ‘just in time’ concept, shortening supply chains to reduce the time materials spend within the production system, from supply to manufacturing and ultimately delivery to consumers, as well as the cost of unproductive inventory.

However, the universal response to the pandemic of governments internationally, in shutting down segments of their economies, have exposed the downsides of such a seemingly efficient approach. With consumers staying at home and the very industries and production capacity they rely upon for their customary standard of living ceased, the fragility of globalisation, in terms of international reliance and dependency, has been exposed.

Such situations lead to opportunities for businesses to fill the vacuum left in a disrupted supply chain.  Just as many western economies’ reliance on oil was exposed in the 1970’s OPEC crisis, so too did that spur the creation of domestic energy production, for example. As investment managers we must be in tune with the possibilities and opportunities that now exist for existing and new businesses to take advantage of the displaced supply chains, and steer portfolios towards such industries. We expect shifts in how people consume, how they work and where they choose to live. If so, housing is another area that could be positioned for long-term leadership.

Supply chains were shifting even before the virus struck as globalisation appeared to peak in the U.S. with Trump’s nationalistic retrenchment to self-sufficiency impacting previously fluid trade deals with the rest of the world, and China’s new found aggressive confidence rattling its neighbours and trading partners further afield pushing them to become less reliant on Chinese goods. The disturbance has caused many companies to reassess their global operations, including the diminishing benefits from manufacturing overseas. In particular, the rising cost of Chinese manufacturing labour relative to other emerging markets is likely to accelerate the localisation trend post-pandemic.

Technology is a key game changer here. The shift from large, commodity absorbing, manufactured products towards smaller technologically advanced products, favours the west (particularly the U.S. and to a certain extent the UK if it can turn its intellectual property into efficient production). Indeed, technology-related capital expenditures in the US have been increasing relative to other forms of CapEx, and with human involvement in production resulting in a weakness in the supply chain due to the virus, robotics and artificial intelligence have seen a resurgence despite the current cheapness of labour. Cloud use and automation appear to be top priorities too, as IT infrastructure spending is estimated to remain relatively resilient in 2020

A broad overhaul of healthcare infrastructure is likely. COVID-19 showed that the US needs to ensure adequate supplies, from basics like masks to complex drug compounds. Compelling investment opportunities could come from a concerted government effort to increase US development and manufacturing of all forms of medicine and related equipment. The addressable market in the US for medical devices alone is forecast to exceed $106 billion by 2023, while the US already imports over $132 billion per year in pharmaceutical products, much of it from China (and India), and thus presents a significant and complex decoupling issue.

And finally, the housing industry is in flux and will present opportunities at some point. The industry can’t take off until people have a greater clarity as to the extent human kind needs to adapt permanently to a new way of life, and also to have job certainty. Recent experiences of house confinement has lead to an exodus from city dwellings in favour of country dwellings with outdoor space. As such, current property and land banks might have to be rethought and repurposed as well as re-planned, and all that takes time.