When
the Facts Don’t Fit the Story…
Change The Facts
How Wall Street’s Marketing Machine missed
the point of International Investing
By
John Riley
Chief Strategist
05/15/08
We’ve
all seen the pie charts below that show how US economic domination
has been dwindling for decades. This is many times given as the
main reason for investing overseas.
 
Source: Bloomberg; Format: CIS
The
implication is that as the world economy is growing, the US share
of the global economy is shrinking. This is many times the excuse
given by pundits for our growing Trade Deficit and declining Dollar.
You
will notice however, that this type of chart is almost always (as
far as I’ve ever seen) 2 or 3 pie charts with different dates
on them, usually decades apart. You, as the reader, are expected
to fill in the blanks and mentally connect dots between the pie
charts with a straight line.
But
selecting data points from a series of data can be misleading. What
exactly do the points in between the pie charts do? Are they a straight
line as the marketing pieces would imply?
For
instance, in 1998, you might have been able to read a headline like
this: “US Doubles its share of Global markets” and seen
pie charts like these:
 
Source: Bloomberg; Format: CIS
What?!?
The first set of charts above showed the US markets losing ground
to foreign competition, but these charts above are showing the US
doubling its market share of the global markets. Which is right?
Both.
Both sets of pie charts are accurate. The story told along with
them in some marketing pieces may not be.
The
charts represent 2 things: First, each pie chart is the percentage
of something at a specific point in time. Second, the “something”
is equity market capitalization. Equity market capitalization is
nothing more than the value of the stock market, how much all of
the stocks added together are worth. The comparisons are between
the Global stock markets and the US stock markets.
The
charts tell you nothing about trends and they tell you nothing about
economic activity. Any implication to the contrary is misleading.
Below
is the chart with the data points in between the pie charts filled
in:
Source:
Bloomberg; Format CIS
The
first thing you should notice is that 2000, 2001 and 2002 are missing.
Bloomberg had no reason why they were missing from their files.
It could be as simple as they stopped monitoring the numbers during
those years.
The
second thing you should notice is that the US share of Global Market
Capitalization has been cyclical for the past 20+ years. There were
times it declined and times it rose. To say that the general trend
has been down over the past 23 years would not be true. It has been
down over the past 9 or 10 years, but it is only about as low as
the 1988 low, 20 years ago.
What
does this mean for the US economy? Does market capitalization have
anything to do with economic activity? We have all seen great strides
in the growth of certain foreign economies. Surely the US share
of the Global economy has been declining for decades, hasn’t
it?
The
answer is a very simple no. In fact, the US share of the Global
GDP (Economy) has barely budged. From 1969 though 2007, the US share
of Global GDP has hovered around 30%, plus or minus a point.
Source: USDA; Format: CIS
So
all of the hub-bub over growing foreign economies taking over the
US’s dominance and causing our trade Deficit and declining
Dollar is nothing more than baloney.
The
pie charts that fund companies have in so many product brochures
are at best bad marketing and at worst, misleading.
But
it doesn’t end here. We continued to dig into the numbers
and found something that had been believed for some time. The share
of Global economic activity was shifting, from Developed countries
to Developing countries.
Since
1969, Developing Countries have almost doubled their share of the
Global GDP from 15.64% to 27.27%. If you are looking for economic
growth, look to the Developing countries.
Source:
USDA; Format: CIS
A
good example of this growth in Developing Markets is China. Its
share of Global GDP has risen from less than 1% to almost 6.00%
since 1969.
Source:
USDA; Format: CIS
This
is not a recommendation to go out and buy a China fund. It is a
review of where some of the strongest economic growth has been coming
from over the past few decades.
Developing
countries have been taking market share away from Developed Countries.
But from whom? The FSU (Former Soviet Union) has lost almost half
of its share of Global GDP since 1969. Also since 1969, Europe has
also lost 24% of its market share according to USDA data.
So
is the point of the marketing, that international investing is important,
correct? Surprisingly, the answer is yes. But not for the reasons
the famous Pie Charts would imply.
What
this means to investors?
Since the US has been playing on a level playing field with the
rest of the world and not having its share of Global GDP eroded
by growing foreign economies, our own data takes on new implications.
No longer can we blame foreigners for our international trade problems.
In
the US, we’ve been talking about “Globalization”
for about a decade or so. What does it mean? What has it done for
our economy? Has it improved our share of Global GDP? Has it made
our economy stronger? Has our trade deficit declined? Has our Dollar
strengthened? No is the answer to all these questions.
Source: Fed Res; Format: CIS
Since
1985, when the G5 collaborated on a reversal of the US Dollar’s
strength, the Dollar has lost about 50% of its value. Since 2001,
it has lost about 36% of its value. Many experts (including the
Administration) have believed that the Dollar’s decline would
be a cure for our rising Trade Deficit and Current Account Deficit.
Yes,
exports have gone up, but imports continue to grow faster than exports
and our Current Account Balance (Deficit) continues to get worse.
This means that while our share of total Global economic activity
has been stagnant for decades, we continue to owe our trading partners
overseas more and more money.
Source: Fed Res; Format: CIS
Our
Current Account Deficit has grown to over 5% of our GDP. That means
we owe 5% of our GDP to Foreigners.
Worse
than that, since 1981, the US has needed to borrow more and more
money from overseas investors to finance our economic growth. Looking
only at Federal Government debt and stripping out that owned by
Agencies, Trusts and Federal Reserve Banks, we owe about 45% of
all Federal debt to foreign investors. In the early 1980’s
it was only about 15%.
Source:
Fed Res; Format: CIS
Avoiding
likewise the accumulation of debt – George Washington
Live
within your means, never be in debt, and by husbanding your money
you can always lay it out well. But when you get in debt you become
a slave. Therefore I say to you never involve yourself in debt,
and become no man's surety. – Andrew Jackson
Rather
go to bed supperless than rise in debt. - Benjamin
Franklin
Apparently,
we have forgotten what our fore-fathers taught us.
Wrap-up
What does this mean to investors? Our analysis shows that because
of the huge run-up in debt, the amount of foreign debt ownership
and the declining Dollar, the US is not the best place to invest
in the World. The Wall Street Marketing Machine got it right, albeit
with spurious data. Given the choice of equity markets, the international
markets, especially the Developing markets look like the better
choice.
But
our analysis goes further. The chart above that showed what our
US Equity Market Cap really looked like on a linear chart struck
me. It looked like another chart I was familiar with. And then it
hit me.
Source:
Bloomberg; Federal Reserve: Format: CIS
It
appears that the change in percentage of the US Market Capitalization
compared to Global Capitalization has less to do with economic activity
(GDP) and more to do with the Dollar.
As
the Dollar goes, so goes the share of the US Equity percentage in
the Global Market Cap. For years I have been telling investors that
the Dollar would likely be the catalyst for any major declines in
the market and economy. It appears that the Dollar is linked much
more closely to the US market than was previously believed.
If
you are of the opinion that the Dollar is likely to fall further,
which we are, then you would also have to consider the possibility
of the US Market Cap to decline relative to the Global Market Cap.
So foreign markets would be a better place for investment, not because
of their stronger economies, but as a hedge on the falling Dollar.
(And if you are looking for where the economies are really growing,
you look to the Developing Markets)
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