Investing in an Emerging World Order. Part 3
In the final part of our series on global supply chains, portfolio managers Inbok Song and Sherwood Zhang look at the companies that are reconfiguring their networks and portfolio manager Vivek Tanneeru gives his assessment on the investment opportunities.Subscribe
- Companies are overhauling their supply chains in a number of ways and for different reasons in both high-value and low-value markets.
- Certain opportunities are fairly apparent, others are more nuanced. There will be pockets of value created from clusters of relocations in the short term while longer-term plays will occur from more structural shifts.
- Some businesses will be more successful than others in staying on top of their networks. The key for investors is having an open view as companies’ operations increasingly straddle frontier, developed and emerging markets.
In the final part of our series, we focus on the industries where we are seeing signs that production is shifting and how some companies are positioning themselves to capitalize effectively. We explore the arc of opportunities it provides and how investors can capitalize on these near- and longer-term shifts. Interestingly, some China-based companies are also relocating production processes and may provide attractive investing opportunities.
As we discussed in Part 2, the distinction between high value-added and low value-added industries is important when assessing whether and how supply chains may shift.
For more technology-oriented industries, moving entire production processes from one country to another is often unviable but we do expect to see some production—whether intermediate processes or new capacity—to be added in countries like Vietnam, Malaysia and India. A good case study is the chemicals industry where some global corporates are pursuing a China Plus One strategy. Neogen, an India-based chemicals company, for example, has received increasing inbound inquiries as businesses are making strategic decisions over where they source materials.1
In other cases, existing emerging markets-based companies are adding new production overseas sometimes in other emerging markets and other times in developed markets, and this can be for cost reasons, to benefit from domestic policies or to hedge geopolitical risks. EV battery materials companies in South Korea, for example, are expanding their presence in Europe and North America, enabling them to capitalize on growing demand for local supply of materials and take advantage of tax and trade incentives.2
“As labor costs rise in China, we’ve seen a cluster of companies in industries like textiles and toy making move to Southeast Asian countries such as Vietnam and Cambodia. And now we are seeing a new wave of investment into these markets from Chinese companies in more advanced industries.”
China going global
In China, some domestic companies are building plants and factories overseas. Jiangsu Hengli Hydraulic Co., for example, which specializes in machinery components, is setting up a manufacturing facility in Mexico to enable it to focus more on key products for its U.S. industrial customers and improve client responsiveness.3
As labor costs rise in China, we’ve also seen a cluster of Chinese companies in industries like textiles and toy making move to Southeast Asian countries such as Vietnam and Cambodia. Leader Electric Appliance, owned by China-based household appliance manufacturer Ningbo Fujia, for example, operates a factory near Ho Chi Minh City where it produces vacuum cleaners for the U.S. market.4 And now we are seeing a new wave of investment into these regional markets from Chinese companies in more advanced industries.
Leader Electric Appliance's factory near Ho Chi Minh City, Vietnam. Source: Matthews
Additionally, some companies are making environmental- and sustainability-related supply-chain shifts. Here, customers are interested in ensuring they’re working with environmental, social and governance (ESG)-aware companies. An example is Makalot Industrial, a Taiwan-based garment manufacturing company. In addition to cost efficiency, manufacturing-base diversification and speedy and flexible responses to restocking and destocking demands, sustainability issues are a focus among its customers. The company provides customer visibility into its environmental policies, such as on carbon emissions and wastewater treatment, and is working to improve energy efficiencies at its factories.5
“For some countries even relatively small new orders can significantly boost local economic activity. These shifts can create compelling opportunities for investors prepared to conduct deep, on-the-ground research.”
The Investment Case: Vivek Tanneeru
We believe supply-chain disruptions won’t provide a windfall of growth for emerging markets in aggregate in the short-to-medium term. Rather, over the long term, non-China emerging markets will be net beneficiaries of geographical production-diversification efforts while developed markets, we believe, will find it challenging to create new, scalable manufacturing hubs beyond certain high-value added areas. Over the shorter term, we think supply shifts will create waves of value in certain markets as they become hubs and destinations for global industries’ and companies’ specific needs.
Supply chains will evolve over the next five to 10 years, naturally creating winners and losers—introducing ample opportunities for investors to identify and attempt to capitalize on these shifts. Some of these shifts will be clear to see, others may be more nuanced but offer equally significant opportunities for investors. And that’s where active management comes in—the ability to anticipate and identify opportunities that may not be visible to more passive strategies.
This active approach also allows investors to explore and invest off-benchmark where opportunities present themselves—whether by investing in a developed markets business with sizeable exposure to emerging markets, or in frontier markets like Vietnam and Bangladesh, or in countries like Hungary that tend to fly under investors’ radars.
For small economies, even relatively small new orders can significantly boost local economic activity, thereby raising the tide for not only the company but for business and consumers as a whole in that market. We believe these supply chain-shifts, big and small, can create compelling nearer-term opportunities for investors who are willing to conduct deep, on-the-ground research and are prepared to capitalize accordingly.
Sources: 1 Mint Genie; 2 Financial Times; 3 Fluid Power Journal; 4 Matthews; 5 Makalot, HSBC.
The information on the security mentioned above is presented solely for illustrative purposes and is not representative of the results of any particular security or product.
Sherwood Zhang, CFA