![]()
Chapter 1
The World Right Side Up
One thought always strikes me in my travels. I'll be sitting in a comfortable bistro in Medellín with its doors open to the warm night air wafting in gently from a quiet street, in a restaurant on a man-made island gazing up at the tallest tower in the world twinkling on a starless night in Dubai, at a bar in Cape Town, in a noodle shop in Beijing, or countless other places around this ever-fascinating planet of ours. And the thought will hit me.
If I close my eyes, I could easily imagine myself in New York, Washington, D.C., or any number of American cities. Of course, each of these places is different from each other in many ways, and yet they are much the same.
People are people around the world. They like many of the same things. They want to have a better life. They want to have a safe home, wear clothes they like, and have friends. They want to have leisure time and eat well. They all want something.
They share all the same traits that make us human. People everywhere are humble and vain, generous and greedy, wise and foolish, and many other qualities besides. They've made mistakes. They have hopes and dreams.
Yet great disparities and differences exist, too. Since the Industrial Revolution, the Western world—mainly the United States and Western Europe—has vaulted well ahead of everyone else. Traditionally wealthy economies, such as China and India and parts of the Middle East, were left far behind. The Western world dominated—in manufacturing might and in military power, especially.
This gap probably reached its apex sometime in the 1950s. According to Power and Plenty, a good reference book on trade, the Western world (excluding Japan) represented 90 percent of the world's manufacturing output as late as 1953. The United States bestrode the globe as Tiger Woods once lorded it over golf's majors. America's economy alone was nearly half of the world's industrial output.
But things started to change in the late twentieth century. The gaps narrowed. And these trends continue to unfold in the present. My thesis is that such narrowing of the gaps will continue for decades. This will be the most important long-term investment theme of the twenty-first century.
I call it “the world right side up” because it is, in my mind, a more natural world, more the way the world ought to be. It's a Western conceit to think that the current technical, economic, and military superiority of the West is normal. When you look at the history of our planet over a longer time frame, the dominance of the West is a relatively recent affair.
The Polynesians had prosperous farming villages across a great swathe of the South Pacific while Europeans were still living in caves. In double canoes, using only the stars and their wits, Polynesians crossed distances as great as those of Columbus thousands of years before Christ was born. And of course, you surely already know the long list of inventions first made by people in China or Arabia.
The distinctions between “emerging markets” and “developed markets” are starting to disappear. Indeed, the term may already be obsolete. Such is the thesis of Everest Capital, which made the case in a white paper called “The End of Emerging Markets.”
First, in terms of size, these emerging markets make up about half of the global economy. Take a look at Figure 1.1. GDP, or gross domestic product, is a flawed statistic, but it serves as a rough guess of economic size. “Purchasing power parity” (PPP) aims to take out the distorting effect of different currencies.
This is astonishing, but the comparisons get more interesting by country. Emerging markets make up 10 of the 20 largest economies in the world. India is bigger than Germany. Russia is bigger than the United Kingdom. Mexico is bigger than Canada. Turkey is bigger than Australia. These are things that I think would surprise the casual observer of markets, rooted in a Western view of the world as it was.
These trends will become more pronounced over time. The creation of new markets, the influx of hundreds of millions of people who will want cell phones and air conditioners and water filters, who will want to eat a more varied diet of meats and fruits and vegetables, among many other things, will have a tremendous impact on world markets. In fact, we've felt the impact in many areas, as we'll see.
In these pages, I'll focus on where these markets have been, where they are, and where they're headed. It is, necessarily, an eclectic and idiosyncratic look at the world. The world is still a big place. There are many patches of Earth and stretches of sea where I've never set foot. They are many places I don't write about here. This is not a comprehensive guide to global markets. It is one curious investor's sampling of that world.
That world is always changing. I first visited Dubai in 2007, when it was a boomtown. Buildings were going up everywhere. Trucks filled the highways. Cranes crowded the skyline. I learned later that two-thirds of the world's cranes were in Dubai back then. It had all the buzz and confidence of boomtowns I've seen in many other places.
My second trip was in October 2009, when everything was bust. It was a completely different place. There were still cranes, but they weren't moving. The many construction sites were still there, but there was no activity on most of them. The place was dead. The third palm island dredged out of the Arabian Gulf—it's never the Persian Gulf in that part of the world—wasted away in the waves and wind.
That's part of the business. Just when you think you've got a bead on a place, something happens that forces you to revisit all you thought you knew.
But the broader narrative never changes. The rest of world is catching up. That's the overwhelming tidal force in markets, and one that will continue to surge on its shores well into the twenty-first century. (Dubai is coming back, slowly, but surely. It's not going away; we'll take a look in Chapter 7).
The evidence is all around us, as you'll see in these pages. Every day, I find new snippets of it as I peruse the Wall Street Journal and the Financial Times. As I travel and meet people and research new investment ideas, I am confronted with this narrowing gap again and again. These experiences inspired this book.
The key idea is simply that the Industrial Revolution set off a yawning gap between the “West” and the “rest of the world.” That gap is shrinking and will continue to shrink. Don't be afraid of this change. All is as it should be. The aberration was the last 200 years. The anomaly was that China, in 1970, had an economy smaller than that of Belgium. For hundreds of years before that, it was the world's largest economy.
It may already be on top again.
Arvind Subramanian, a senior fellow at the Peterson Institute, makes the case that China's economy is already the largest in the world, passing the United States in 2010. “On this basis,” he writes, “the average American is ‘only’ four times as wealthy as the average Chinese, not 11 times as rich, as the conventional numbers suggest.”
It might seem funny to you that we can't to seem agree on how big economies are. But it is not easy to estimate the size of something that doesn't sit still—so you can count it—and that consists of billions of transactions. All of these things are estimates, but the impact China's had on the global economy is real and not in doubt. We'll take a look at China in Chapter 5.
I stay away from statistical abstractions like GDP. What is GDP, or gross domestic product, exactly? What does it mean, and why should we care? The truth is there is an awful lot of guesswork in such figures, and they are not practical. You could lead a very successful and rich life as an investor and never know a thing about GDP figures.
In this book, I will stay away from such economic monstrosities as much as possible. This book is a boots-on-the-ground view, a first-hand look. It's more practical, and the aim is to stay close to what is happening and what we can understand in more tangible ways.
For instance, we may debate the size of China's economy—as many people spend an inordinate time doing—but don't doubt its impact. Take a look at Figure 1.2 to see the tangible impact of the growth of China on commodities.
So it is impossible to be an investor in iron ore, coal, or wheat without considering what's happening in China.
In any event, my view here is that we are headed back to a world more in line with a “normal” historical perspective. It is a world right side up.
The work of Angus Maddison, the late British economist, offers this helpful illustration. Again, I am skeptical of the ability to measure economic size in general—much less for, say, 1600—but I think Figure 1.3 makes intuitive sense.
During the Song Dynasty (960–1279), for instance, the capital city of Hangzhou had a population over a million people. It was one of the world's most advanced cities. Lars Tvede describes it in Supertrends:
So, in some ways, the seemingly sudden and unprecedented boom in China is more a return to what was, when Chinese cities were among the largest and most advanced in the world. It's not there yet, but to anyone who's walked the Bund in Shanghai or seen the gleaming new airport terminal in Beijing or even visited the modern fashion shops in today's Hangzhou, you see the trend unfolding.
I mentioned Everest Capital's white paper earlier. It points to a few more ways in which you see how the gaps are closing.
One is to look at simple liquidity. Not that long ago, the value of IBM shares changing hands in a single day in New York were worth more than all the shares that traded hands in Shanghai or Bombay on a given day. No more.
Today's emerging markets are large and liquid. As Everest Capital pointed out at the time of its report, “Chinese markets (granted, there is a lot of retail turnover there) traded more than the NYSE; Hong Kong and Korea traded more than Germany; India traded more than France; and Taiwan traded more than Italy, Australia, or Canada.”
Others see shifting changes in the world's financial markets. My colleague and friend, Eric Fry, at The Daily Reckoning, pointed out a few in a piece titled “A Shrinking Distinction.”
“The First might become last . . . and the Last, first” Fry wrote. “Generally speaking, the mature economies of the West are slipping, relative to many emerging economies around the globe. The First have not become last just yet, but they are working on it.”
He pointed to the five-year credit default swap (CDS) on AAA-rated French government debt as compared to that of Chile's AA-rated debt. (A CDS is a kind of insurance against default. The higher the risk, the higher the price of the CDS.) Remarkably, Chile's CDS rate was lower.
This is not an isolated event; it is of a piece of what's going on all over. The CDS rate on French debt was higher than Brazilian, Peruvian, and Colombian debt. That would've been unimaginable 10 years ago! All three of the latter countries carry BBB-ratings, too, one notch above junk. But the market renders its own judgments, ahead of and more accurately than ratings agencies.
“Ten years ago,” Fry continues, “Portugal, Ireland, and Greece were highly rated sovereign borrowers. Ireland ...
