Robeco Report Mega Trends

8/6/2019 Robeco Report Mega Trends

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How to capture the long-termopportunities in megatrends

Report

May 011


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We see three main megatrends that are going to shape the future:

demographic change, shortage of natural resources and increasing

environmental awareness. These developments are contributing to a

fourth issue that is starting to emerge: higher inflation.

Henk Grootveld, Head of Thematic Investing at Robeco, explains which

investment strategies benefit from these megatrends.

1. Demographic change

a) Population growthThe demographic landscape is changing dramatically. The worlds

population is forecast to grow from the current 6.9 billion to over 9

billion by 2050 (see chart 1). This growth will not be evenly spread

across the globe: 98% will be in emerging markets. That change will be

accompanied by a shift in economic power. In the future, mature markets

with stable or declining populations will find it harder to expand their

economies than the emerging markets of Asia and Latin America, where

the population is still growing.

b) The aging of the populationA growing world population is not a new phenomenon. But the aging of

the population is new (see chart 2). That is one of two trends within the

wider demographic shifts that will have the greatest impact. In the US,

for example, people on average live to 77. In 1940, by comparison, the

average was under 65. People who make it to 65 now typically have 18

years of retirement. Those aged 65 or over currently make up around 20%

of the population in G7 countries. But by 2050, that is set to have risen to

over 30%, according to the UN.

Not only are people living longer but they are also having fewer children.

These falling fertility rates will result in declining growth rates in the labor

force over the coming decades. The potential global labor force is set to

increase by only 0.7% a year from 2010 to 2050. That compares with an

annual average of 1.8% growth over the 1950-2010 period. The workforce

in some regions, including Japan, the eurozone and China, is even

expected to shrink.

One effect of these changing demographics is that the potential economic

growth rate will be significantly lower than the levels with which we have

become familiar. In fact, based on the UNs population statistics, the

global economic growth potential for the next four decades is around 1

percentage point lower than in the period since 1950.

More old people and fewer workers are combining in a further issue. The

ratio of workers to dependents (essentially those too old and too young

to work) is falling, meaning there are fewer wage earners to fund thepensions of the retired and the schools of our children. Tough measures

will be required. They might well require cuts in pension benefits, as well

as rising contributions. In addition, public finances are being undermined

by rising public pension expenditures, as well as increasing healthcare

costs.

There is a simple if unpleasant solution: a rise in the retirement age would

significantly reduce the cost of aging. Academic research suggests that

the US retirement age would have to rise to 72/73 by 2030 to maintain

dependency ratios at current levels.

Overall, aging is negative for growth and increases the risks of inflation,

How to capture the long-termopportunities in megatrends

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Chart 1: The global population is growing

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Chart 2: The global population is aging


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due to a scarcity of labor. The negative fall-out from lower potential

economic growth is not very relevant in the short-term perspective of the

next few years, as unemployment is currently high in many developed

countries. The effect of the expected changes on financial markets

thanks to retirees cashing in their investmentsis at best neutral.

c) The rise of the global middle classAnother key development within the wider demographic changes is the

rise of the global middle class. Across the world, there are increasing

numbers of middle class people, boosted by the tremendous, ongoingeconomic growth in emerging markets. In fact, the share of these

consumers in the global population is expected to more than double in

the next 20 years (see chart 3). That means there are more consumers

there who can afford to buy cars and iPods, a trend that is driving strong

growth in consumer spending in these countries.

Look at India as an example. Unlike many countries that are grappling with

an aging population and rising dependency ratios, Indias population is

young and its workforce continues to grow. The Indian consumer is typically

young, urban and middle class: around 60% of Indias population is below

35 years old, while the middle class is forecast to make up around 60% of

Indias population in five years time.

What is so exciting is the combination of the sheer numbers involved

already and the terrific scope for growth. India already has more mobile-

phone users and savings-account holders than the population of the US, for

instance. There are as many internet users as the population of Germany.

That sounds pretty impressive. But those data points only hint at the

potential of Indias consumption market. Take media as one example. The

Times of India is the biggest-selling English-language newspaper in the

world. Indias newspaper readership base already totals more than 200

million, which makes it the second-largest pr int market in the world. Even

so, this readership is only a part of Indias total population of 1.2 billion.

There are similar stories across emerging markets. In China, the

government is in the process of shifting the economy from an investment/

export driven model to a domestic consumption driven one. As part of theprocess, it is emphasizing wealth redistribution in its policy mix. It should

also be recognized that there is a savings glut in China, as citizens need

to fund their own retirement and future healthcare costs in the absence

of any state provision. If the government were to take over these costs

through health insurance and pensions, consumer spending would be

boosted significantly.

In general, the balance sheets of emerging consumer households are

strong, as they are essentially debt free and cash r ich due to high levels of

savings compared with developed countries.

This increasing spending power of the emerging markets consumer

is well-enough established that a company like Swiss-based luxury

goods group Richemont now generates some 50% of its revenues from

consumers in emerging markets.

d) Changing consumption patternsBut that isnt the only change in consumption patterns that is occurring.

Another development is the rise of the digital consumer. Signature

developments include the emergence of mobile devices such as the

Blackberry, the Kindle and the iPad, and the shift away from traditional

media (such as newspapers and radio) towards digital alternatives (such

as portals, social media and blogs).

Other consumer developments are impacted by the megatrends. The

aging of the population is reflected in peoples different spending habits

as they get older, with more spent on travel, leisure and healthcare, and

less on childrens clothing and education. And increased environmental

awareness means a change in consumer preferences towards organic

foods, natural products and recyclable packaging.

A final consumer trend is a bifurcation in consumer spending habits.

While there is an increased demand for luxury goods, consumers are also

trading down to cheaper alternatives for other products. The middle is

getting squeezed.

Chart 3: The worlds middle class is increasing rapidly

Source: UN Population Division. Goldman Sachs Research.


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e) Increasing health consciousnessPeople are also becoming increasingly health conscious. Not only is this

changing consumers shopping habits, as they seek out organic and

natural food, but there is also a greater focus on illness prevention. Not

surprising, perhaps, given the rising cost of healthcare, the third factor

that is having an impact. After all, it is betterand cheaperto prevent

than to cure. A fourth issue is the greater incidence of obesity: the World

Health Organization predicts that 2.3 billion people will be overweight

and 700 million obese by 2015.

In response to these developments, new products, services and

technologies are emerging, which are helping to turn a niche market into

a mass market. As well as healthier nutrition, other growth areas include

fitness centers, athletic apparel, generics, early diagnosis and chronic

care.

How to capture the opportunities in demographic changeThe key demographic changes expected can be captured in the Robeco

thematic strategies. Thematic funds benefit from megatrend-related

opportunities by identifying companies that should profit over the long

run by developing products and services that address the real issues

related to these trends. Robeco Consumer Trends Equities, for instance,

focuses on the emerging consumer, the shift in consumption patterns

from the traditional to the digital economy, and the green consumer.

Meanwhile, the SAM Sustainable Healthy Living Fund focuses on

investments in companies that help to preserve or improve personal

wellbeing. It invests in four market segments: healthy nutrition, activity,

personal care and healthcare.

But it isnt just a thematic equities fund like this that captures the

demographic trends. For robust consumption growth, it is necessary

to turn to emerging consumers. At the same time, aging is affectingemerging markets less than developed markets, India in particular. The

range of Emerging Markets Equities strategies, including Robeco Indian

Equities and Robeco Afrika Fonds, are exposed to the upside here.

. Shortage of natural resourcesThe second megatrendthe current and future scarcity of natural

resourcesis linked to the first. That is because the emergence of the

global middle class could cause increased demand for food and water,

gasoline and other forms of energy, land and various types of metal.

Andat least for the time beingnew supply is turning out to be very

limited. Oil and copper, for instance, are increasingly hard to find, while

the supply of food is badly interrupted by extreme weather. Price spikes

result from this limited supply meeting with increased demand.

a) Oil & metalsOil and metals such as copper tend to gain most attention in discussions

on shortages of natural resources. Both are becoming increasingly hard

and expensiveto extract from the earth, particularly after 30 years of

underinvestment in the industry. In addition, demand is surging. The

potential global population of nine billion-plus by 2050 will want to work,live and consume like westerners currently do. To put this in perspective,

more natural resources are expected to be consumed in the next decade

than in the past century.

In short, a supply shortage of historic proportions is looming. The

populationand with it demandis growing faster than our ability to

find and extract these energy sources from the ground.

b) Soft commoditiesBut it isnt just oil and metals that are being affected; soft commodities

are also becoming scarce. The price of corn, for instance, rose to an all-

time high in April, surpassing the records set in the food crisis of 2008.

In fact, the price of corn has risen by more than 100% over the past year,

while inventories have declined.

High food prices have resulted in simmering discontent boiling over this

year in some of the relatively poor and unequal countries of North Africa

and the Middle East. With increasingly volatile weather affecting harvests

and global inventories set for further declines, the situation should not be

expected to improve soon. High volatility in agricultural commodity prices

is here to stay.

The longer-term picture is a concern, as well. Food demand is expectedto increase by 70% by 2050 from current levels, driven by three factors.

First, the rapid growth in the global population. Second, the wealth

effect as the emerging markets middle class expands. As incomes rise

globally, meat consumption increases (see chart 4). This is important, as

livestock require a substantial amount of grain as food. Each kilo of beef,

for example, requires around 10 kilos of grain, as well as 15 kilos of hay

and thousands of liters of water. That is adding significantly to the need to

increase grain production.


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Third, the increasing use of alternative sources of energy, in particular,

corn-based ethanol. Brazil, the EU, US, China, India, Indonesia and

Malaysia have implemented policy measures or targets for biofuel use.

In some countries, mandatory blending requirements are in place. In

Brazil, for example, there are blending requirements that vary between

20% to 25% ethanol in dif ferent parts of the country. And in the EU, there

is a legal requirement that all transport fuel includes 10% of renewable

energy by 2020. These developments will result in rising demand for

cereals, sugar cane and edible oil for biofuel production. It means there is

increasing competition between food and fuel.

Increased production output will have to be driven by improving

productivity, as global availability of arable land and water resources is

not expected to rise significantly in the coming decades. Higher required

yields will be the result of investing in biotechnology, fertilizers, irrigation

and better management practices. Just as important is reducing the

substantial losses that occur in the post-harvest stage. More efficientinfrastructureroads and railways, storage depots and refrigeration

facilitieswould make a big difference, minimizing yield losses and

increasing food security.

c) WaterThe third area in resources is the shortage is fresh water. The average

European uses 200 liters of water every day for drinking, washing and

cooking, according to the UN Human Development Report, while North

Americans use 400 liters. And that doesnt count all the water used

to grow food and in other processes. For instance, it takes 140 liters of

water to make a single cup of coffee, because of the water used to grow

the beans, convert them to a usable form and to transport them to

your kitchen. Globally, more than 80% of water consumption is used in

agricultural production, according to the United Nations Environment

Program.

The negative consequences of overexploiting the available resources are

being felt in many countries already. In arid regions, for instance, it is

now difficult to irrigate crops suff iciently to feed everyone. Food already

accounts for up to 35% of imports in certain countries that do not have

enough water to produce sufficient food to feed their own population.

Around one billion people around the globe lack safe drinking water,

while more than 2.5 billion do not have safe sanitation, according to

WHO/Unicef. They also estimate that some 1.4 million children die from

diarrhea caused by unclean water and poor sanitation each year. The

situation will only become more critical in the years ahead.

But water scarcity isnt an issue confined to isolated regions. It is

increasingly becoming a global problem as well. Furthermore, water

quality and providing an effective infrastructure to transport water

are presenting growing challenges. These challenges are opening up

attractive markets for innovative, well-positioned companies.

Overall, the development of the water market will be shaped by five main

trends: global population growth; urbanization; the crumbling water

infrastructure; higher water quality standards; and climate change.

How to capture the opportunities in the shortage ofnatural resourcesThe continued strong demand for materials and energy around the world

can be tapped by investing in Robeco Natural Resources Equities, which

invests in companies that are expected to profit the most, such as those

that own upstream assets in the tightest supply-demand areas. It invests in

companies that are involved in oil or mining. It also focuses on producers aswell as companies that search for innovative ways to efficiently exploit and

use the increasingly scarcer commodities.

This final factor is also the case for the SAM Smart Energy Fund, which

focuses on alternative ways of producing energy; the alternative route

becomes increasingly viable economically as oil prices rise. The fund

invests in global companies offering technologies, products and services in

innovative technologies in four key segments: renewable energies, natural

gas, distributed energy systems and demand-side efficiency.

SAM Smart Materials takes advantage of the rising demand for technologies

and products that offer a solution to the scarcity of basic materials. It

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Chart 4: Meat consumption expands as the middle class grows


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invests globally in companies that offer products and services in the area of

extraction and efficient consumption of raw materials, the recycling of used

resources, and the development of innovative alternative materials.

Interest in food & agri investment is likely to be boosted in the coming

years by inflation and rising demand/short supply. The SAM Sustainable

Agribusiness Equities fund addresses the strong demand for food resulting

from the growth of the world population and the rise of the middle

class in emerging countries. It considers investments throughout the

agribusiness value chain, though with a special focus on the upstreampart of the chain. So as well as investing in food processors, the fund

focuses on areas such fertilizers, seed producers, machinery, plantations,

transportation and infrastructure, which help to realize global food

demand in a sustainable way.

The SAM Sustainable Water Fund identifies the major trends affecting the

water-value chain. The stocks picked for the fund are those best positioned

to benefit from these trends.

. Environmental awarenessOur third megatrend is growing environmental awareness. The effects of

climate change are becoming increasingly visible: catastrophic flooding,

hurricanes or periods of extreme drought are just some of the weather

phenomena that repeatedly make the headlines.

Global trends such as demographic changes, growing emerging markets,

environmental sustainability and CO2 restrictions are intensifying the

demand for products and services that anticipate or react to climate change.

Consumers and corporates alike are showing this increased awareness.

Companies are not only targeting earnings growth but also the reduction

of their CO2 footprints and their water usage. Take, for instance, the

Dutch/UK consumer goods group Unilever. It recently declared its goalof doubling sales by 2020but also to do this with the same CO2

emissions. To do this, Unilever intends to invest in new manufacturing and

packaging technology.

Meanwhile, more shelf space in supermarkets is given over to organic and

biofriendly products. Thats because consumers are asking for themand

they are willing to pay higher pr ices for them.

How to capture the opportunities from increasedenvironmental awarenessOne way to play the attempts to find solutions to the problems caused

by climate change is the SAM Sustainable Climate Fund. The fund invests

in companies in three main clustersthe mitigation of climate change,

adaptation to climate change and response to climate change.

The megatrends we identify are clearly overarching and overlapping

trends that influence and shape more than theme. A number of funds

offered by SAM, Robecos sustainability investing specialist boutique, thus

play these sustainability themes as part of their wider focus. These include

the SAM Sustainable Water Fund, the SAM Smart Energy Fund and the

SAM Sustainable Agribusiness Equities Fund. Finally, the green consumer

is one of the main focuses of the Robeco Consumer Trends Equities fund.

. Inflation

a) Structural factors pointing to higher inflationDemographic change and the shortage of natural resources are

increasing the likelihood of inflation, which is the fourth key issue that will

shape the future. Demographic change is important because of the aging

of the population, which will make labor scarcer. Within natural resources,

prices might rise as more and more buyers scramble for scarce resources,

also leading to higher inflation.

There is a third factor that is also increasing the r isk of inflation. Many

governments across the globe owe massive amounts. Theyor their no

longer so independent central bankscould be tempted to inflate away

some of that debt. Boosting inflation stimulates nominal growth, thereby

reducing the debt/GDP burden. That is much less painful than actually

reducing the level of debt.

b) The current global inflation situationRight now, though, inflation is not the most pressing of problems in most

developed-world countries, but it is on the rise. Core inflation is at 1.1%

in the US, 1.0% in the eurozone and -0.6% in Japan. And even though

the ECB hiked interest rates in April 2011, central banks continue to be

accommodative.

Chart 5: Robecos inflation monitor

Barometer Inflation

Source: Robeco


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Yet the Robeco Inflation Monitor (see chart 5) tells an unequivocal story.

It is clear that inflation has bottomed worldwide and is expected to rise

in the near term. Rising commodity prices, a rise in inflation expectations

and the recovery of the world economy are all pointing in that direction.

That said, the risks are not evenly spread across the world. There is an

unambiguous dividing line running between the emerging economies

and their developed counterparts. Inflation is already above average in

emerging markets, due to the high food and commodity prices, as well

as some moderate capacity limitations. Ultimately, much will dependon what happens to food prices, which have been affected by floods and

droughts recently.

By contrast, the rise in inflation in the developed world appears to be

more of a normalization than a serious threat. Barely six months ago, the

major fear was the onset of deflation, which prompted the US Federal

Reserve to embark on a second round of quantitative easing (QE2). Now,

with unemployment high and capacity utilization rates low, the ample

spare capacity is putting a brake on second-order effects from the spike in

commodity prices. But tensions are clearly on the rise.

c) Why inflation mattersInvestors who have experienced only low and stable inflation tend to

ignore the effect that inflation has on their purchasing power and their

real wealth. Just like individuals, pension funds also face a money illusion

problemthe feeling of being wealthier in nominal terms while this is

not so in real terms. Although they may want to increase the pensions of

their participants in line with wage or price inflation, they are required

to report their solvency on a nominal basis. This may force them to focus

on the short-term nominal funding ratio and put their plan to protect the

purchasing power of their participants onto the backburner. Clearly, this

may have undesirable consequences for the participants in an inflationary

scenario.

How to protect againstand capture the opportunitiesininflationa) Inflation protection vs benefiting from inflationHow, then, to protect against inflat ion? Our research, as shown in chart

6, shows that commodities and commodity-related equities provide the

best protection, followed by equities and inflation-linked bonds. Nominal

bonds suffer badly in inflationary periods.

But chart 6 also shows that different asset classes with relatively high

levels of correlation with inflation vary substantially in their amount of

return volatility. Those assets with low volatility relative to inflation are

best suited for investors requiring protecting strategies that hedge the

impact of inflation on an investment portfolio and preserve its purchasing

power.

Inflation-related investing isnt only about protecting against it, however.

Instead, it is possible to invest to benefit from inflation, largely by

maximizing inflation-related returns, typically via a more opportunistic

stance. The higher volatility products shown in chart 6 are appropriate

for this more opportunistic, benefiting approach. Ultimately, deciding

whether to protect against inflation or to benefit from it will depend on

the investment goals.

Robeco at a glanceFounded in Rotterdam in 1929, Robeco is a pure-play asset manager.

Utilizing an active investment style, it offers a full range of products in

both traditional asset classes (equity, fixed income, money markets)and alternatives (private equity, hedge funds, managed futures) for a

balanced mix of institut ional and retail clients in selected markets across

the globe. The companys core investment capabilities are complemented

by a ring of specialist investment boutiques.

A global leader in responsible investing, Robeco has assets under

management of EUR 150 billion / USD 201 billion (as of 31 December

2010). Robeco is 100%-owned by AAA rated Rabobank.

For more information, please visit www.Robeco.com

Chart 6: Asset classes correlations with inflation

Source: Robeco


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Important informationThis document has been carefully prepared by Robeco Institutional Asset Management B.V. (Robeco). It is intended to provide the reader with

information on Robecos specific capabilities, but does not constitute a recommendation to buy or sell certain securities or investment products. Any

investment is always subject to risk. Investment decisions should therefore only be based on the relevant prospectus and on thorough financial, fiscal

and legal advice.

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is given as to their accuracy or completeness. This document is not intended for distribution to or use by any person or entity in any jurisdiction or

country where such distribution or use would be contrary to local law or regulation. The information contained in this document is solely intended

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information under any other applicable laws.

Historical returns are provided for illustrative purposes only and do not necessarily reflect Robecos expectations for the future. Past performances may

not be representative for future results and actual returns may differ significantly from expectations expressed in this document. The value of your

investments may fluctuate. Results obtained in the past are no guarantee for the future.

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Robeco Report Mega Trends