With the end of the golden era of capital gains now in sight, Redefine's Sony Kapoor says large institutional investors will shift at least some of their US $80 trillion AUM into new markets in developing countries. But to do that, they need to find models for investing those large sums successfully in projects.
Depending how you measure it, total global long-term capital investments by major investors like the large pension funds lie between $80-$200 trillion. But these same large institutional investors now face an existential crisis.
Some 80-85% of these trillions is invested in OECD countries or stocks and bonds, and for many years returns have been good. But, argues Kapoor, a variety of factors, including a decline in interest rates, rise in corporate tax rates and structural demographic changes, will together ensure that such golden times are gone. For good.
Funnily enough, this is great news. Because, as Kapoor points out, the opportunities for economic growth have shifted to the developing countries and regions. For major investors such as the huge pension funds based in Norway and the Netherlands, for investments in their home markets, returns are only going to fall and risks rise.
“This means that investing in emerging markets is no longer something nice to do because it’s ethical. It’s something that can give major investors higher returns and reduce their risk.” This seismic mind shift, says Kapoor, will increase investments made in developing markets from millions or even billions, into trillions of dollars. The trouble is, ramping up investments in these developing markets is easier said than done.
Invest in expertise
The view often pedalled in reports that ‘DFI models are easily scalable’ is a pure myth according to Kapoor. He says the opposite is true. You must work from the ground up with such projects. Labour intensity for the investor is of a totally different order. As Kapoor illustrates with the simple example of someone working on due diligence of such projects. They can typically only process maybe 5 projects a year each worth, say, $100K. Moreover, while there may be countless MSME projects you can support in Kenya, for example, if you want to invest $1million and make a 10% profit, there are very few projects left over. And a scatter-gun approach would only lead to later terrible press on wasted public money on failed projects.
So how to bridge the gap? For Kapoor, the answer is clear. While the large institutional investors have little or no experience in these markets, it is the core expertise of DFIs like FMO. So he feels these institutional investors need to invest heavily in DFIs, who alone have the know-how to evaluate the projects. And that investment can start, says Kapoor, with significantly increasing the personnel power within DFIs, as the bottleneck preventing effective investment in strong businesses in these markets currently isn’t capital, but human resources. Large institutional investors and DFIs; it is, says Sonny Kapoor, “a marriage made in heaven”.