Recently I met with the senior fund managers from one of North America’s largest pension funds. This fund has a US$350 billion portfolio.
Like most pension funds, it follows certain conventions in the fund management industry.
First, these funds have a diversified portfolio of investments covering most major asset classes around the world.
Second, these investors tend to be longer-term thinkers, reflecting the long-term nature of their pension obligations.
Third, income generation, not just capital growth, is important to these investors.
Fourth, the mix between equities and bonds tends to be fairly evenly split, at a roughly 30 to 40 percent split for each.
Fifth, real estate investment is often a significant part of the portfolio, around 10 percent of total assets.
This particular fund, being a large one, follows the general pattern in most ways. But it also has investments in Chinese and Indian real estate.
That’s why the management team wanted to hear my thoughts on Asian real estate.
What follows are some of the thoughts that I passed on to them…
The great urban migration
Right now, there are certain secular, long-term trends prevailing in Asian real estate.
For example, six large countries in the region (including China, India, Indonesia, Thailand, Philippines and Vietnam) will see some 300 million people move from rural areas to cities over the next decade.
This migration will come on the back of the growing middle class in Asia.
We’ve talked a lot about how China is seeing a massive middle-class boom. Back in 2000, just 4 percent of China’s urban population was considered middle class. By 2022, that figure will be a whopping 76 percent.
In short, there are expected to be 550 million middle-class people in China. That would make China’s middle class alone big enough to be the third-most populous country in the world.
And India’s not far behind…
According to the World Economic Forum, India’s middle class could be larger than China’s by 2027.
Think tank Brookings Institute suggests that by 2030, two-thirds of the global middle class will be living in Asia.
As a result, the demand for housing, offices, factories, shops and a wealth of public facilities, not to mention infrastructure of all types, will be truly staggering in scope.
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About 67 billion square feet of housing will need to be built to meet the needs of these rural-urban migrants. This is equivalent to building about 28 Londons over the next decade.
And around 2.5 billion square feet of new office space will be needed over this ten-year timeframe. This is equivalent to building around 35 Singapores.
Similarly, billions of square feet will also be needed for retail space. Online shopping is a growing phenomenon in Asia – but the need for bricks and mortar retail is still massive in these markets.
What about China’s debt?
Like most observers of, and investors in, China, these investors wanted to know about China’s debt, and its potential to trigger a financial crisis in the country.
You see, a lot of people have been sounding the alarm about China’s credit situation. Since 2008, the country’s debt as a percentage of economic output has increased from around 160 percent to around 280 percent at the end of 2016. (By comparison, the total debt in the U.S. as a percent of economic output is upwards of 300 percent.)
On its face, this increase is worrying. And if China suffers a financial crisis, the contagion effects will spread far and wide.
So global investors are focused not only on China – but on the much broader potential impact of a China financial meltdown.
But I told the pension fund managers the same thing I’ve told you here. While the rise in debt in China is cause for concern, it is not cause for panic. And it’s not a reason to stay away from Chinese investments. The issue of China’s corporate debt burden is well documented and well understood by the government. And whilst non-performing loans at Chinese banks are likely higher than reported, these banks are still extremely well capitalised.
Asian real estate is a great opportunity
Asian real estate offers enormous potential growth. And this particular pension fund is far from alone in investing in in high-growth Asian markets.
But it still surprises me how few of the big pension funds around the world are choosing to participate in this opportunity.
It allows you to diversify, seek growth opportunities, take advantage of big-picture secular trends and reduce the risks of more narrowly-based portfolios. That’s why this is such a great opportunity for investors of all kinds.
And even if you’re not part of a pension plan investing in an opportunity like this, you can still set yourself up to profit.
For example, the Guggenheim China Real Estate ETF (New York Stock Exchange; ticker: TAO) is invested in a basket of Hong Kong and mainland Chinese real estate developer stocks and REITs. Around 80 percent of the ETF is in Hong Kong real estate stocks, with mainland China taking up the other 20 percent. The fund is already up more than 30 percent in the past year. And it will continue to benefit from the massive urban migration in the years ahead.