SUSTAINING VALUE FOR FUTURE GENERATIONS
by Charles Morris
With the objective to preserve wealth for the next generation, family offices must take a long-term view. It is said that money makes money, but students of economic history remind us how challenging this can be. After all, it is also said that “clogs to clogs is only three generations”; clogs once being the shoes of the poor and a stark reminder that it is easier to lose a fortune than to make one.
A long-term investment strategy must be sustainable and able to cope with change. Some change is gradual, well known and part of an on-going evolution. These might include forecasts about population trends or the state of our natural resources. Other changes are unknown and come across as shocks. They include the economic and political landscape, natural disasters and war. A sustainable strategy must be able to cope with both the knowns and the unknowns, whatever they may be.
The known issues facing society include fossil fuels, food, population, urbanisation and jobs. In response, new industries such as renewable energy, artificial intelligence, robotics, genetics, and biotechnology have sprung to life. These mind-boggling advancements will deliver jobs and prosperity to those who embrace change. However, making profitable investments from new industries isn’t easy. Consider that 600 US car companies from the early 20th century were soon whittled down to 2 ½ by 2000. And then came Tesla.
When investors already know what to expect from the key themes, there are still many challenges in building a portfolio. If you invest in large companies building new and innovative divisions, it will take time before that exposure becomes meaningful. Or you could choose more focused start-ups via venture capital, yet these will face brutal competition and have pitiful survival rates; just like the auto industry nearly a century ago. As a result, it pays to take a step back and focus on the shovel providers; a term borrowed from the gold rush. The companies that service the new industries are typically more sustainable investments than the new industries themselves.
The Internet Revives Mail Order
A Welshman created mail order back in 1861, yet it was the Internet that fulfilled its potential. While few Internet start-ups of the late 1990s survived, mail order thrived, and the companies well positioned for the boom were the couriers. They saw higher volumes feed their existing networks; a combination that saw profits balloon. Other winners included logistic hubs and the packaging industry; both trading at low valuations in the late 1990s.
To participate in tomorrow’s industries, there is no need for a PHD in the advanced sciences. You just need to understand the key points how new developments will impact peoples’ lives. For the themes mentioned, more people will live for longer, living standards will rise, robots will do more of the menial tasks and good jobs will require skills. Many businesses such as the savings industry, healthcare, precision engineering, services, entertainment, restaurants, travel and leisure will carry on thriving. All of these require a skilled workforce and an element of personalisation. Industries that pile it high and sell it cheap will face greater challenges.
Another consideration is the cost of retirement in a world with lower expected returns. People will have to work for long in order to save more. Some may choose to move to another country, where it’s cheaper to live. Consider that in Europe, the number of people over 90 has increased from 344 per 100,000 to 854 in just 30 years. The growth in the retirement population may lead to a new breed of thriving communities in countries with a pleasant climate and a willing labour force.
And people of all ages will gravitate towards places where it is safe to live, new businesses can thrive and where the system can be trusted. In that sense, people are just like capital.
Countries on the Mend
The Prosperity Index, compiled by the Legatum Institute, combines data from 149 countries embracing the economy, business, governance, education, healthcare, freedoms, security, social capital and the environment. This comprehensive list doesn’t just look at economic success, but the quality of life and the sustainability of the system. In countries with good systems, opportunities follow, and it is unsurprising that the latest technologies are born in these nations.
The BRIC countries, a popular destination for investors, score poorly in this regard. Brazil is the highest-ranking BRIC on the Prosperity Index. It ranks 51st out of 149 countries. India sits in 104th place, Russia 95th and China 90th. Not one BRIC makes it into the top 50 nations and only one, Russia, has managed to climb the ladder at all over the past decade.
Yet many countries are improving. These include Albania, Bolivia, Indonesia, the Philippines, Ecuador, Rwanda with the shining star being Sri Lanka, which rallied from 88th to 54th place. It seems likely that a diversified property, bond or share portfolio in these countries would beat the BRICs over the next generation. At Newscape, we look for companies, industries and countries that are on the rise.
Barton Biggs, known for building Morgan Stanley’s asset management business, wrote a book called Wealth, War and Wisdom. He looked at past periods of financial upheaval and concluded that there was no holy grail for wealth preservation. In some cases, farm land, art or gold were confiscated. In others, shares and bonds became worthless. Biggs’ conclusion was that a globally diversified, multi-asset portfolio withstood all negative scenarios.
Without wanting to relive mankind’s worst episodes over recent centuries, the great periods of wealth destruction have come from governments that have pursued super taxes, confiscation policies or that have grossly mismanaged the economy resulting in hyper-inflation. All of these paths have eventually resulted in a failed state.
One good thing about the unknown risks, as Biggs concluded, is that they can be diversified away. The important point is to hold assets in different countries, preferably on different continents.
Cash and bonds are unlikely to perform well in real terms, especially at current prices, but some access to liquidity is no bad thing. The rest should be spread across property, equities and other real assets such as gold. The property can be split between well-governed countries such as North America, Australasia or Northern Europe in either residential or commercial property. However, Biggs also stressed the benefits of industrial property. During a slump, it often gets over-looked for confiscation. Yet when normality returns, empty factories soon fill, and their value springs back to life.
For equities, the emphasis should be the sustainability of the enterprise rather than short-term profits. Monsanto, for example, wants to feed the world using 200 seed varieties created by a long-term effort in research and development. Berkshire Hathaway invests in brands with dominant market positions such as Coca Cola, Heinz and Gillette. It also owns railroads and wind assets in Iowa, making it America’s largest alternative energy provider. These are the sorts of companies that will thrive long after their founders pass as they embrace the principles of sustainability.
And then there’s gold and other collectibles. It’s best to hold some in different continents. At least that way, you’ll keep most of it. Better still, diversify with computer science’s imitation of gold and send wealth into cyberspace.
It’s no joke but assets are turning digital. Blockchain technology is building a future where value can be transacted without a bank sitting in the middle. Digital assets are still youthful, but the leader, bitcoin is now worth $20 billion. As this highly innovative matures, and its credibility builds, there is a place for this new asset class in a diversified and sustainable portfolio. After all, it’s far from certain that the banks will play such a prominent role in the future.
The amount you pay for an asset today is the one thing you remain in control of. An asset’s sustainability is a measure of how much value there will be in the future – something that is normally beyond your control. The long-term investor should focus on today’s value and tomorrow’s sustainability.
The investment strategy must embrace change. For the known risks, position the portfolio into countries, sectors and companies that are ready for the future. For the unknown risks, diversify. Not just by asset and asset class, but by country and continent. And when you do that, don’t overlook cyberspace. The next generation may thank you for it.