Until recently geopolitical competition and risk was not a pressing issue for asset allocators globally, but China’s growing assertiveness and Russia’s invasion of Ukraine, suggests the world order is changing.
The last 30 years have been dominated by one global superpower. It was a period of relative peace but historically unusual. “We are getting to a more normal situation with competing superpowers dominating the world stage,” Archie Hart, portfolio manager of the Emerging Markets Equity Strategy, told assembled investors at Ninety One’s recent Investment Institute Forum.
While many have suggested that this shuffle in the hegemonic order implies a return to the cold war era, with the East and West on opposing sides, the current reality is somewhat different. And it is one that investors need to wrap their heads around.
Thus Archie, together with Grant Webster who manages Ninety One’s Emerging Market Blended Debt Strategy and Deirdre Cooper, Head of Sustainable Equity, gathered at the Investment Institute Forum to discuss the implications of these shifts, moderated by Philip Saunders Director of the Investment Institute.
While the panelists don’t have crystal balls and can’t predict the end of the Russian invasion, they see the conflict grinding on through winter as the most likely scenario.
The resulting ‘war tax’ has already been felt around the world. European gas, up 300% since 2021, has doubled in price since June. “This will take a massive toll on economies – the ECB has barely hiked rates and already there is talk of recession,” says Grant.
The European Union is scrambling to build gas inventories ahead of winter and had reached about 60% of capacity. But Russia is curtailing supply.
“The Russians have weaponised gas, and the US has weaponised the international payment system. This is a new war,” says Philip.
The first casualty in this war is the transition to a low carbon economy, which has been put on the back burner as countries try to secure sufficient energy to see them through the coming winter.
“There has been a seismic change in energy policy in the EU and most parts of the world except the US. In fact, European energy policy changed more in the ten days following the Ukraine invasion than in the last 10 years,” Deirdre says.
Plans to reduce dependence on coal as fast as possible, and transition to a low carbon economy using gas as a bridge have been temporarily abandoned.
German climate secretary, Patrick Graichen put it well when he said earlier this year, "Putin has destroyed the narrative of natural gas as a bridge. The bridge has collapsed.”
This means that from a policy perspective, coal is back – for the short term. Although in the medium term the transition is expected to accelerate, she adds.
“This policy will ricochet through Asia. If Germany is using more coal, it is hard to tell Indonesia and other emerging markets that they cannot use coal.”
Aside from potentially stalling the net-zero transition, geopolitical tension is exacerbating trends that were already visible. An obvious one is the localisation of supply chains. Russia and Ukraine may account for less than 3% of the world economy, but the war has led to the third major supply chain shock in three years, the first and second being the US vs China in 2020, and Covid in 2021.
Thus, companies are reassessing risk. For instance, Apple buying all its iPhones and iPads from two or three companies in China, with just-in-time inventory management is probably a bad idea. This creates opportunities for countries, industries and companies. Countries and regions to keep an eye on include Mexico, Eastern Europe, the Middle East and parts of Asia, Archie tells the audience.
For instance, Mexico is an increasingly attractive base for US companies. ‘It’s in a free trade zone, the shipping costs are less, supply chains are shorter and Mexican labour costs are lower than in China,” he adds. India and Vietnam are also trying to attract manufacturing to their shores.
While the diversification of global supply chains does create opportunities, the development of new supply chains will add new costs, increasing inflation pressure for years to come, warns Grant.
However, in an interconnected world, rising geopolitical tensions will not necessarily lead to an East vs West scenario, or even a Russia/China alliance vs the West. Russia and China have different agendas, notes Archie. While Russia is not linked into global supply chains, China is. The truth is that we need each other, and that is a good basis for a relationship longer term, says Archie.
Thus, while markets may be worrying about a cold war, the reality is different. “We are moving into a multi-polar world. This is different to the Washington Consensus that has dominated over the last 30-40 years. The truth is that China would be poorer without the world, and the world poorer without China,” concludes Phillip.
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