Across the globe, consumers’ desires are shifting — and that has implications for investors.
A decrease in the consumption of basic goods, like food and personal hygiene products, may present new opportunities for investors in emerging markets, according to a recent paper from investment firm Polen Capital.
“We believe the investment opportunities in emerging markets are hard to overstate,” portfolio manager Damian Bird and analyst Pamela Macedo wrote in the paper. “A McKinsey study estimates that by 2025 consumers in emerging markets will spend an estimated USD 30 trillion annually, a future it calls ‘the biggest opportunity in the history of capitalism.’”
For their study, Bird and Macedo compiled macroeconomic and industry-specific data from global industries over the past 20 years. They first noted a shift away from the “classic consumer product S-curve,” a visualization that illustrates historical trends of consumers in early-stage developing economies.
According to that model, consumers at first tend to purchase low levels of consumer products. However, as a country’s economy grows and individuals acquire more wealth, consumption of consumer products starts to slowly increase, gaining speed as the country’s economy expands. The “S” shape comes from the “inflection point,” a point in the graph at which consumption of consumer products begins to outpace the per capita growth of gross domestic product, or GDP.
“Generally, growth rates have been steady in low-income countries and rapid in low-to-middle income countries,” Bird and Macedo said in the paper. “They have slowed in countries where GDP per capita levels are starting to reach upper-income brackets, such as South Korea and Taiwan. As one might expect, many consumer-staple companies that operate in these lower- and middle-income markets have tended to enjoy healthy growth rates.”
The New Consumption Patterns
According to Polen Capital, the S-curve has “started to prove less effective in predicting purchasing patterns,” shedding light on a new phenomenon in global consumer consumption: Over the last five years, consumption of basic consumer goods has decreased across emerging markets, a trend that has extended across countries and income levels, according to the paper. For instance, from 2001 to 2014, China, a “middle-income” country, saw average annual sales growth of 21 percent. From 2015 to 2019, that figure dropped to 6 percent. In India and Indonesia, both categorized as “lower-income countries,” average annual sales growth dropped nine percentage points and 12 percentage points, respectively.
Bird and Macedo offered multiple explanations for the widespread slowdown, pointing to the “challenging” macroeconomic backdrop for emerging markets and lower domestic inflation rates as two potential causes. But, they said, neither theory tells the “full story.”
Instead, the Polen Capital researchers hypothesized the slowdown in growth of basic good consumption is a question of preference. According to the paper, consumers are shifting their disposable income away from basic goods and toward “experiential and engaging alternatives,” like smartphones and video games.
“Our belief is that, across emerging markets, consumers are increasingly choosing to sacrifice everyday items to enjoy more aspirational products,” Bird and Macedo said in the paper. “In the past, perhaps the extra dollar earned may have gone on branded detergents or a can of soda, but with all the opportunities that the digital age has to offer, purchasing data to browse TikTok or play mobile games may now be more appealing.”
For investors in emerging markets, Bird and Macedo suggested taking an active approach and staying up-to-date with the latest shifts in consumer consumption in order to better identify opportunities. Right now, that means “investing in wants over needs,” according to the paper. However, the co-authors cautioned against investing in companies with overly-optimistic internal outlooks.
“Suppose management teams expect a return to rapid double-digit rates of growth in the future,” Bird said in an email. “In that case, they may make suboptimal capital allocation decisions, such as over-investing in (or acquiring) future growth that does not materialize. Valuation multiples that pressure unrealistic expectations can further prompt management teams to chase growth in a value-destructive manner. Such decisions could impair business quality.”
