Ichiro Suzuki
Former Morgan Stanley emerging market chief Ruchir Sharma ran an article on The Financial Times at the beginning of this year. He points out that the United States represents 60% of global equity market capitalization and almost half of corporate earnings globally, despite only a 25% share of the global economy. The U.S., therefore, is over-represented in equity markets at the expense of the rest of the world. True. The U.S. has an outsized share in the world of markets, but for reasons listed below. One: Corporate earnings To begin with, it’s earnings, stupid, not growth rates of the economy. Too many people forget this. Stock price is a multiple of earnings per share and price/ earnings ratio. GDP is not immediately responsible for higher share prices though economic growth rate is one of the key factors for corporations’ earnings. Earnings can be generated out of management prowess. Some companies are better at making money than others, running the same business under the same macro economic environment. Corporate America does it better than others, notably than China that is loaded with state-owned enterprises with not so great focus on generating profits. While the U.S. market boomed in the 2010s, China is stuck at around the Shanghai Index’s 3,000 levels for 15 years, despite posting world-leading economic growth rates. Two: Gross National Income (GNI) not GDP Global corporate profits are closely related not to GDP but to gross national income (GNI), which is essentially aggregate value-added on a global basis by nationality. Might of American multi-national corporations is amply displayed in GNI, in the form of consolidated corporate earnings. Procter & Gamble has its Asia-Pacific headquarters in Singapore. P&G sends expats from all over the world to work in Singapore. Expats earn decent income, live in nice houses, send kids to expensive schools, go to dinner at nice restaurants and play golf on weekends. Such activities all contribute to Singapore’s GDP. All the profits P&G earns there, however, are consolidated in the financial statement of the company’s global headquarters in Cincinnati, OH, and the company is listed in the NYSE. This applies to all the great American MNCs, including Apple, Microsoft, Alphabet (Google), Amazon, Meta Platforms, Coca-Cola, McDonald’s, Nike, Starbucks, etc. Then profits earned on U.S. soil by foreign MNCs need to be subtracted from America’s GNI. Tiffany is one of 75 brands that belong to French luxury goods giant LVMH. Profits made at Tiffany’s 5th Avenue head store belong to a company listed in the Paris Stock Exchange. By the same token, profits earned by Daimler-Benz, Samsung, Toyota, Nintendo, Sony, etc. need to be treated accordingly in GNI calculation. After additions and subtractions, American MNC’s value add outside the U.S. far exceeds those by non-American corporations on U.S. soil. This expands America’s global share in corporate earnings. Three: Valuation The U.S. market is given higher valuation than others not only because of greater ability to generate earnings but also corporations’ greater focus on shareholders. This is evident as opposed to Chinese corporations whose motive is not maximizing profits for shareholders but pleasing the Communist Party, which at the same time is the largest shareholder in the case of SOEs. There is little regulatory transparency in China, and this hurts valuation immensely. Or look at Corporate Japan that sits on a pile of cash on balance sheets in case banks do not lend them, instead of buying back shares and/ or paying out larger dividends. In a nutshell Corporate Japan pays scant attention to efficiency of assets, and this is detrimental to valuation, too. The U.S. market pursues shareholder capitalism in the crudest form. Corporate America’s earnings are too aggressively engineered, or leverage up, to be specific. They probably have gone too far and some rollbacks are inevitable. Nonetheless, their relentless pursuit of higher profits still deserve lots of respect, especially as opposed to management in other countries that tend to treat shareholders lightly. Therefore, it makes sense that the U.S. has such a massive weight in global equity markets. That all said, the 2020s in all likelihood would not belong to the U.S. After a spectacular surge in the 2010s, The financial markets need some break from the U.S. and corrections of some excesses are already in progress, as the U.S. lately underperforms of the rest of the world, notably Europe.
About the author: Mr. Suzuki is a retired banking executive based in Tokyo, Japan.
