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Picking Investments is Nothing Like Buying a New Car

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As consumers, we are used to researching the many choices we have before making a buying decision.

For most people, the process of buying a new product (such as a car) might look something like this:

  1. Recognize a need
  2. Search for information
  3. Evaluate options
  4. Make a purchase
  5. Evaluate satisfaction with purchase

In other words, we figure out what we need, and then we seek to learn more about our choices. After reviewing relevant articles, product ratings, buyer reviews, and other sources of information, we can make a final and informed decision.

Same Process For Picking Investments?

Does the above process look similar to how you approach investing, particularly in choosing funds?

If so, Vanguard says it might be worth re-framing how you look at things. Here’s why picking investments is different.

Cars vs Investment

Vanguard, which manages over $3.5 trillion in assets, may have a good point.

The past performance of a car model is hugely important to a consumer’s decision. That’s because the next Honda Civic built in the factory is guaranteed to be much like previous Honda Civics before it.

For investments, however, everyone knows that past performance does not predict future results. And even though this advice is ubiquitous in the investing world, it is still commonly ignored by many investors.

Here’s what happens to top performing funds:

Picking investments

Even though top funds did well in previous years, there isn’t much correlation with the future.

In the above case, top-rated funds got an influx of capital, which made it harder to get the same return. Funds rated five stars by Morningstar received $60.7 billion in new inflows, but dropped 147 basis points in annualized returns in their subsequent 36 month periods.

The other reason for this is that fund management is just a relatively level playing field, and it’s hard to stay a top performer over the long-term.

The best funds leading up to 2010 were all over the place for the next five years, and only 16.2% of them continued to be top performers. Meanwhile, an astonishing 24.1% of the top performing funds fell to the bottom performing quintile, while 12.5% of funds were liquidated or merged.

Keeping this all in mind, Vanguard recommends adopting a different process for picking investments:

New Investing Process

We can’t say we disagree for almost any type of portfolio.

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Green

Visualized: The Power of a Sustainable Investment Dollar

Do sustainable investments make a difference? From carbon emissions to board diversity, we break down their impact across three industries.

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Sustainable Investment

Visualizing the Power of a Sustainable Investment Dollar

Sustainable investments are booming.

Between January and November 2020 alone, investments in sustainable ETF and mutual funds grew 96%. The UN Principles of Responsible Investment now has over 3,000 signatories representing over $100 trillion in assets. The U.S. Commodity Futures Trading Commission established a Climate Risk Unit to analyze climate risk across derivative markets, and as of March 2021, new sustainability disclosures have come into effect in Europe.

But how do we know if sustainable investments have made a difference?

To answer this question, the above infographic from MSCI examines the effect of a sustainable investment dollar by looking at real-world examples.

A Sustainable vs. Unsustainable Dollar

To start, investing legend Benjamin Graham has compared the stock market to a “voting machine.” Just as consumers vote with their purchasing decisions, investors vote with their investment dollars. Especially in the short term, as more dollars flow to sustainable companies, this builds their exposure and access to capital.

In the long term, meanwhile, the market can be compared to a weighing machine. The market recognizes companies with profitable business models that improve their intrinsic value over time. Ultimately, this allows sustainable companies to expand and continue operating.

Given the rising momentum in both green assets and climate targets, here is how investment dollars have influenced and driven change across three industries.

1. Clean Energy vs. Fossil Fuel

Over the last several years, the energy sector has been associated with many of the problems causing climate change. For this reason, many investors are seeking out greener energy alternatives. But how does moving investment dollars from an ESG laggard to an ESG leader support the environment and society?

First, here is a brief explainer of ESG laggards and leaders:

  • ESG laggards: companies with the weakest environmental, social, and governance (ESG) performance in their sector.
  • ESG leaders: companies with the strongest environmental, social, and governance (ESG) performance in their sector.
Industry laggard: U.S. oil & gas companyIndustry leader: U.S. utilities company
Scale of carbon-intensive business lines equal to 73% of its operation47% lower CO2 emissions than the industry average
This is the equivalent of adding 26 million cars on the road annuallyThis is the equivalent of removing 9.9 million cars off the road annually
1 of 20 oil and gas companies are responsible for contributing to one third of GHG emissions since 1965Uses 3X as many renewable sources than industry average
3X fewer jobs are created vs. energy efficient sector, resulting in lower productivityThis is roughly the same as saving over 9 million pounds of coal burned
MSCI ESG Rating: CCCMSCI ESG Rating: AAA

Source: MSCI ESG Research

Based on the above example, investors have the ability to finance powerful green initiatives that reduce emissions by almost half, relative to their peers.

2. Safe vs. Unsafe Working Conditions

Weak safety protocols are a key sustainability issue for the industrial sector. Here’s how two companies compare:

Industry laggard: South African mining companyIndustry leader: U.S. mining company
11 fatalities in 2019Zero fatalities in 2019
Faced lawsuits from miners surrounding lung diseases contracted from dust exposure in gold mines
Settlement cost: $350 million
Board-level oversight monitors health and safety performance
Lags behind peers in high incident ratesLeads peers in low incident rates
Lags behind peers in setting incident reduction targetsLeads industry in lost time incident rate & total recordable injury rate
MSCI ESG Rating: CCCMSCI ESG Rating: A

Source: MSCI ESG Research

Despite the risks involved in the sector, investors can choose to support companies that take greater precautions to protect their workers.

3. Building Trust vs. Losing Trust

Over the last several years, the financial sector has faced increased scrutiny over fraudulent activities. Moving investment dollars from an ESG laggard to ESG leader may make a difference:

Industry laggard: U.S. bankIndustry leader: Dutch bank
$3 billion settlement in creating fictitious accounts to meet aggressive sales targetsSustainable finance portfolio valued at over $20 billion
Drop in top-tier bank ratings13% annual increase in climate finance
Board effectiveness questionedIncludes over 60 green loans, mobilizing environmentally friendly projects
Resignation of board membersOver 55% of board is female
MSCI ESG Rating: CCCMSCI ESG Rating: A

Source: MSCI ESG Research

From board diversity to green loans, a sustainable investment dollar supports companies that are actively advancing society and the environment.

Sustainable Investment: The Time to Act

Recently, investor dollars and shareholder activism have been closely linked.

Between 2018 and 2020, large institutional investors filed 217 shareholder proposals on climate change alone, putting increased pressure on companies. Meanwhile, 270 proposals were filed on corporate political activity and 228 on fair labor and equal employment opportunity over the same timeframe. Across all ESG proposals, $2 trillion in assets were pushing for more equitable corporate action.

Through the power of a dollar, investors can send a clear signal to companies: the time for sustainable investing is now.

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Markets

China’s Economy: 40 Years of Soaring Exports

China’s economy today is completely different than 40 years ago; in 2021 the country makes up the highest share of exports globally.

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China's Economy

Animated Chart: 40 Years of Soaring Exports in China

China has the second highest GDP in the world, and it exports 15% of all the world’s goods. But how did this come to be?

A mere 40 years ago, China’s economy was in an entirely different situation, making up less than 1% of global exports and still in the infancy stages of building its economy. The above animated chart from the UNCTAD showcases China’s rise to global trade dominance over time.

Timeline: The Rise to Power

The China of the mid-20th century looks remarkably different when compared to the modern-day nation. Prior to the 1980s, China was going through a period of social upheaval, poverty, and dictatorship under Mao Zedong.

The 1970s

Beginning in the late 1970s, China’s share of global exports stood at less than 1%. The country had few trade hubs and little industry. In 1979, for example, Shenzhen was a city of just around 30,000 inhabitants.

In fact, China (excluding Taiwan* and Hong Kong) did not even show up in the top 10 global exporters until 1997 when it hit a 3.3% share of global exports.

YearShare of Global ExportsRank
20004.0%#7
20057.3%#3
201010.3%#1
201513.7%#1
202014.7%#1

*Editor’s note: The above data comes from the UN, which lists Taiwan as a separate region of China for political reasons.

The 1980s

In the 1980s, several cities and regions, like the Pearl River Delta, were designated as Special Economic Zones. These SEZs had tax incentives that worked to attract foreign investment.

Additionally, in 1989, the Coastal Development Strategy was implemented to use strategic regions along the country’s coast as catalysts for economic development.

The 1990s and Onwards

By the 1990s, the world saw the rise of global value chains and transnational production lines, with China offering a cheap manufacturing hub due to low labor costs.

Rounding out the ‘90s, the Western Development Strategy was implemented in 1999, dubbed the “Open Up the West” program. This program worked to build up infrastructure and education to retain talent in China’s economy, with the goal of attracting further foreign investment.

Finally, China officially joined the World Trade Organization in 2001 which allowed the country to progress full steam ahead.

Made in China

Today China is a trade giant and manufacturing behemoth. Only the U.S. and Germany come close to its share of global exports, sitting at 8.1% and 7.8% respectively.

RankCountryShare of Global Exports (2020)
#1🇨🇳 China14.7%
#2🇺🇸 U.S. 8.1%
#3🇩🇪 Germany7.8%
#4🇳🇱 Netherlands3.8%
#5🇯🇵 Japan3.6%
#6🇭🇰 Hong Kong SAR3.1%
#7🇰🇷 South Korea2.9%
#8🇮🇹 Italy2.8%
#9🇫🇷 France2.8%
#10🇧🇪 Belgium2.4%

China’s manufacturing industry has become dominant in producing just about anything from commonplace household items to integral pieces in automotive manufacturing. Some staples of Chinese manufacturing are:

  • Precision instruments
  • Semiconductors
  • Industrial machinery for computers and smartphones

COVID-19 made China’s integral role in the global economy even more visceral, as major delays in the supply chain occurred when the virus hit the country.

An Economic Superpower

In 2021, China’s trade recovery from the crisis has bested most other countries—in Q1 2021, its exports grew by almost 50% compared to the previous year’s quarter, to around $710 billion.

And the country is not slowing down any time soon. Further plans for economic development are well under way, like Made in China 2025, with the goal of becoming a dominant player in global high-tech manufacturing. Additionally, the famous One Belt, One Road initiative has been funding infrastructure projects globally over the past decade, and the country is also a founding member of the RCEP—which is soon to be the world’s biggest trading bloc.

However, China still faces a series of challenges, such as:

  • Population decline
  • The onset of labor saving technology
  • Trade wars with U.S. and sanctions from other trade partners, like Europe
  • The emergence of ASEAN trade powers, like Vietnam

A declining population has many implications like a shrinking workforce and domestic market. Additionally, many companies are setting up shop in less costly manufacturing hubs like Vietnam.

Furthermore, inexpensive innovations in labor-saving technologies, such as robotics and automation, have already begun to undermine the cheap manual labor that has made China the world’s manufacturer.

All of these elements and more could potentially spell a slowing of growth in China’s export dominance. However, while the future for China may not be certain, currently, global trade and production could not function without it.

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