Global equities are intrinsically tied to the macroeconomic environment and its developments. Evaluating long-term equity risks requires a comprehensive understanding of major secular trends and macroeconomic developments that will shape the global equity outlook over the next 10 to 15 years. Five key long-term risks that we identified (climate change, geopolitics, deglobalisation, demographics, and technological disruption) presents both challenges and opportunities for equity investors.
Climate change is driving a shift towards renewable energy and clean technology, which benefits utilities and industrials while posing risks to financials and traditional energy companies. Geopolitical tensions are increasing market volatility and impacting trade, with potential benefits for defence industries. Deglobalisation trends are reshaping supply chains, favouring the industrials sector but potentially increasing costs for consumers. Demographic shifts, particularly ageing populations in developed countries, present growth opportunities for healthcare and technology sectors while posing challenges to overall economic growth. Technological disruption, especially in areas like AI, is set to revolutionise multiple industries, with the IT sector poised for significant growth.
Climate change: Risks/opportunities of weather volatility
Long-term shifts in temperature and weather patterns define climate change. These shifts can be due to natural causes or influenced by human activities, such as the burning of fossil fuels, which causes temperatures to rise via greenhouse gas emissions.
Climate change can be responsible for a fall in productivity, as well as a disruption of global supply chains, a deterioration in real economic growth, and the fuelling of inflation. This has inevitable consequences on equity markets, as companies need to adapt to and mitigate the risks of climate-related losses. Moreover, infrastructure damage is a potential threat to profitability, as companies would need to divert funds from other productive uses. The implications are thus both environmental as well as financial, and investors will need to increasingly consider climate risk in their portfolios.
While it is true that the effects of climate change are currently slow and sporadic, this will nevertheless lead to increased business costs due to efforts to mitigate future risks. More frequent and widespread climate events may lead these risks to transition from idiosyncratic to systemic ones for certain sectors. As the weather becomes more volatile, so will the profitability of companies. There are also transition risks, which stem from companies that are not able to swiftly adjust to a changing business environment.
See also: COP29 deal: Inside the frantic manoeuvre that saved climate talks at a cost
On the positive side, climate change provides a structural growth opportunity for companies exposed to themes like renewable energy and clean technology. Wind, solar, geothermal, nuclear, and tidal solutions are becoming increasingly popular, as numerous benefits can be derived from producing ‘green energy’.
In terms of equity impact, in the utilities sector, we expect the major beneficiaries to be those companies that are able to position themselves in a timely manner with regard to renewable energy. The increased demand for clean energy and the more frequent consideration of environmental, social, and governance (ESG) factors when constructing an investment portfolio will help to lift the segment’s valuation as growth prospects remain intact. Companies in the industrials sector that are exposed to electrification and the energy transition will also benefit from the developments that climate change requires. Machinery and equipment play a central role in industrial operations, and companies across the value chain are being called to meet the sustainability expectations of their customers.
Geopolitics: Navigating uncertainty in global markets
See also: COP29 ends with deal on climate finance after bitter fight
Geopolitical jitters have been dominating the headlines and the uncertainty tied to such events causes consumer confidence, as well as investor sentiment, to deteriorate, which, in the end, weighs on economic growth.
The impact of geopolitics on international trade has been a critical factor in assessing investment risks and opportunities. Supply chain disruptions and commodity market volatility remain undoubtedly linked to geopolitical flare-ups, causing negative revisions to growth dynamics. Geopolitical tensions do not have a lasting impact on commodity markets, and the effects are usually temporary. Investment exposure to this theme varies between sectors and depends on the geographical location and trade links of the impacted companies. Geopolitical risk can also trigger a ‘flight to safety’ mode, stressing both corporate bond markets and equity markets simultaneously. When looking at equity valuations, these have historically tracked economic policy uncertainty quite well, and the European market, as an example, has become quite sensitive to political risk over time.
It is important to continue to keep in mind economic and financial risks when constructing portfolios as frictions between major world powers may continue. Equities may see counterposing effects from the macroeconomic setting, ranging from an inflationary environment to slower economic growth. Defence spending has surged recently due to increased geopolitical tensions, with aerospace and defence companies in the industrials sector benefiting the most. New geopolitical challenges and heightened tensions will likely increase the demand for aerospace and defence products and services, with technological advancement and innovation driving growth in the industry.
Additional macroeconomic consequences from geopolitical head winds could lower bank asset quality undermining the profitability of the financial sector. Recent history suggests that geopolitical shocks alone are unlikely to cause a systemic crisis, but the latest developments call for heightened awareness.
Deglobalisation: Protectionism and reshoring initiatives
Investors have expressed increasing concerns about deglobalisation, as the world is becoming less interconnected through trade. Governments are increasingly refocusing their policies around protectionism. Effects of deglobalisation range from higher interest rates and more volatile inflation to slower economic growth and lower corporate profits. The risk of global trade fragmentation is increasing, and its consequences could be severe for both producers and consumers.
For the time being, globalisation remains intact, despite recent shocks that have acted as headwinds for global supply chains, and we do not expect a full-fledged deglobalisation and broad-based decoupling of world powers. Manufacturing supply chains have been relatively resilient given their flexibility, and multinational corporations have been able to adapt to new norms. However, going forward, we expect that deglobalisation trends and protectionism will be more prominent.
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Deglobalisation will focus mainly on the return of production and manufacturing to a company’s original country, i.e. reshoring. Heightened geopolitical tensions can cause disruption to normal supply chain activities, which takes a toll on companies’ profitability. While the major risks of reshoring include the increased costs of production and timeline disruptions, mitigating risks by building adequate supply chains will be beneficial to companies’ business models.
We consider the industrials sector to be well positioned to benefit from reshoring dynamics as companies transition to integrated supply chains with multiple suppliers and manufacturing plants. The trend is a significant long-term value driver, as more jobs will become available near new onshore and nearshore facilities, enhancing growth. Implementation of automation and robotics will be key for driving efficiency and turning to more secure and reliable supply chains.
Manufacturing activity will most likely be taken away from low-cost countries and as companies restructure their production chains to source input from countries that are geographically closer rather than those that are more efficient, their higher production costs will also be reflected in the final prices charged to the end consumer. We thus see a possible hit to consumer spending intentions. Technological progress may make it easier to reshore the production of strategic goods and technologies, such as semiconductors. However, doing so still requires large investments and time. In addition, the risk of escalating sanctions and export controls is weighing on the information technology (IT) sector as the ‘chips race’ intensifies.
Demographics: Decelerating population growth
Slower population growth is a headwind to real economic growth, since an ageing workforce leads to lower labour productivity. This decelerating trend will also place a burden on the tax revenues needed to support the growing elderly population.
While demographic trends can pose challenges to long-term economic growth, technological innovation and increased productivity can help to mitigate these effects. Emphasising investments in technology and leveraging the skills of younger, tech-savvy generations will be key to sustaining economic growth. Longer lifespans and healthier populations mean more extended contributions to the workforce and the economy. Technological advancements play a critical role in moderating inflationary pressures by enhancing productivity across sectors, with particular emphasis on automation and robotics within industrials. Another sector that would likely benefit from demographic shifts is healthcare. Healthcare spending increases significantly when the population gets older. The sector is therefore well positioned for a structural growth opportunity.
Technological disruption: A tailwind for growth
Innovation and technological advancements are able to disrupt the way that businesses and consumers behave. Rapid progress in technology may increase productivity and improve efficiency, but it may also lead to job destruction and redistribution, economic instability, and social disruption and this could result in greater regulation and taxation.
Technological progress can lead to lower inflation through increased productivity, but at the same time, it can lead to higher inflation through an increase in demand. Cloud computing, Big Data, artificial intelligence (AI), and the Internet of Things have the potential to help drive down prices by moving the supply curve to the right. The impact of technological advancements on inflation thus depends on various factors, although the net effect would lead to a deflationary impact.
What is unquestionable is the leadership status of technology on global equity markets. AI, advanced robotics, and cyber-physical systems are just a few of the features that will shape the digital revolution. We are still in the early stage of the AI investment cycle, as increases in capital expenditure are currently running towards infrastructure players. The biggest potential earnings boost will come from the widespread adoption of AI and the related productivity gains, which is expected to be reached in the next ten years.
Leonardo Pellandini is an equity strategist at Julius Baer
