David Jane
Premier Miton Macro Thematic Multi Asset Team
Reshoring and deglobalisation
For several years we have been following a theme of reshoring and deglobalisation. Tensions were already emerging in the middle of the last decade. The Trump presidency saw a much tougher approach to foreign competitive practices, with tariffs on heavily subsidized Chinese exports and even the EU. The trend has only become greater in recent years, most especially post the Ukraine war and renewed China/Taiwan tensions.
China’s zero Covid policy has disrupted production of many US imports, highlighting the vulnerability of long and complex supply chains. At the same time, intellectual property concerns have again come to the fore, with the recent restrictions on the sale of semiconductors and related technologies to China.
Deglobalisation mode ‘on’
The world is in deglobalisation mode and that has important implications for investment going forward. Most obviously, deglobalisation is inflationary. During globalisation, we saw the replacement of expensive Western labour with cheap Chinese labour. This, combined with cheap Chinese energy (coal), had a major disinflationary impact over the past 20 years.
Whilst reshoring may make sense from a security of supply point of view, labour costs, regulation and energy costs mean it may inevitably lead to cost increases. That is not to say it will be necessarily damaging to the economies that bring production back, as domestic investment and job creation will kick in to increase demand in the long term.
Whether companies are fully able to pass on the additional costs associated with greater domestic production is an important point regarding margins. Company profits as a share of GDP have seen growth over many years and may now start to fall.
Long reshoring drift
Most interestingly the reshoring theme may favour some sectors that have long been out of favour and remain relatively cheap in our view. Industrials in particular may be set to benefit. We have been building a basket of US manufacturers, which produce goods for third parties in the US. Having struggled to compete with Chinese manufacturers they have had to invest heavily in efficiency and quality over the years and now they are beginning to reap the benefits.
The US is also benefitting from another deglobalisation trend, Europe’s energy problems. The forced deindustrialization of Europe, through the commitment to environmental policies, has long benefitted China. Now this has become an extreme problem as expensive energy, and even energy shortages, give European manufacturers a major competitive disadvantage, and the US is stepping in to fill the gap. This is particularly so in fertilizer and petrochemical products but will also impact manufactured goods in time.
In the long run, there will be clear winners and losers from deglobalisation
The winners may be those economies with their own access to the key means of production, energy, natural resources and labour. In this, North America comes out very well, which is arguably why it is a keen proponent. A big loser is likely to be Europe, where policy has meant it is dependent on outside sources for energy, whether oil and gas, or renewables (which largely are produced in China).
Clearly, there is a strong valuation case for Europe right now, with so much near-term bad news baked into the price. Although European manufacturing may become increasingly challenged, even a key European brand such as Volkswagen has more than half its manufacturing outside of the EU.
How China fares is debatable, the economy is still overdependent on exports and homebuilding, neither of which appear to have a strong outlook. It also remains heavily dependent on imports for a number of key raw materials and has little domestic semiconductor production, which partly explains its desire to take control of Taiwan.
In the long run, the big winner from deglobalisation is likely to be the US. It has a large and growing workforce, energy and many other raw materials in abundance. Hence our preferred way to gain exposure to this theme is our recently built portfolio of US outsourced manufacturers. These are already benefitting from the recent supply chain turmoil from Covid and may have increasing opportunities as this theme builds momentum.
