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With nearly half the world’s population set to face national elections this year, including here in the U.S., it’s a time of questioning for many. People want to know who their next leader will be, how changing policies may affect them, what the economic implications will be, and what place their country or region will have in the world.
Of course, questions like these are often accompanied by feelings of uncertainty. Given that, I’d like to focus this discussion on some of the vitals I use as an international and global equity analyst here at Commonwealth when trying to determine the health of a country.
How Do We Measure a Country’s Health?
To start, let’s think about the metrics we are exposed to regularly and how they differ in what they reveal about the health of a country.
Headlines. Media headlines come from various perspectives, locations, and cultures and are typically monetized through advertising. Their goal is to grab attention and tap into readers’ feelings, so they may be limited in the scope of the material they cover. For these reasons, I view headlines as the shortest-term indicator of a country’s health. That said, short-term events can lead to long-term consequences. As investors, we should align the time horizon of the areas where we invest with the time horizon of our investments.
Sentiment. Sentiment comes in all shapes and forms, whether that’s a formal survey or a conversation with friends. Typically, it reflects recent feelings and future outlooks and is therefore short to intermediate in nature. The farther into the future you try to predict based on how you’re feeling today, the less accurate your predictions are likely to be. Why? How you feel today may carry a stronger weight than how you felt days, months, or years ago.
Data. Finally, we have data. Numerical data itself is emotionless. For this reason, headlines and sentiment may be used by some when making an investment decision, whereas data is preferred by others. So, it may make sense to ask them which of these three was used to guide their decision-making to determine how their rationale and perspective may differ from yours.
A data point is commonly a snapshot in time, but we can look at trends to examine the past and make future projections. As a result, the time horizon can vary dramatically. Data analysis can be conducted to look at the variability of the data, what is typically normal, and what that means for the current and future environment. It can also lead to questions that other forms of data (e.g., headlines and sentiment) can be used to answer. Finally, in examining the data, we should also examine who collected it and the collection method. These details can help us form an opinion on the quality, scope, accuracy, precision, and potential conflicts of interest.
A Focus on Data
One of the main reasons I wrote this post was to illustrate how I try to look beyond the emotions of headlines and behavior biases related to sentiment. Next, let’s explore a handful of data metrics I consider when gauging the health and profile of an economy.
A great free resource to find data at the country level is Trader Economics. There are many other options out there, both free and paid, including a country’s direct data sources (e.g., FRED in the U.S.) and third-party providers (MarketWatch and Wall Street Journal).
Now, onto the metrics and what they tell us.
GDP and GDP per capita. GDP typically reflects the overall size of a country’s economy. It can be measured in different ways, but all are ultimately trying to determine the size of the economy. If the expenditure method is used, we can also look at components such as consumer spending (consumption), capital spending (investment), and net expenditure from the government to evaluate the economy’s structure.
GDP per capita reflects this size divided by the average population during a specific timeframe. Countries with higher GDP per capita are typically seen as developed economies, whereas low GDP per capita typically reflects developing economies.
Debt-to-GDP ratio. This metric compares a country’s public (government) debt to its size. It indicates the health of a country’s balance sheet and how much it has had to borrow to get to its size. Changes over time may reflect the government’s focus on growth or on managing the debt.
Current account. This provides a figure of a country’s total goods and services exports versus the value of the goods and services it imports. It provides insight into the country’s reliance on others versus its role in global trade.
Trade surplus or deficit. This metric provides the country’s balance of trade or the exports minus the imports of goods. It does not include services (which the current account does).
Foreign direct investment. This provides the level at which foreign companies are purchasing assets or a stake in a foreign company. It can provide a point-in-time figure for the interest a country and its companies may have in the global economy. It can also act as a sentiment indicator of how supportive a country is of foreign investment at a given point in time.
The Questions You Should Be Asking
While raw numbers are helpful in providing the size, growth, debt, and trade levels of a country, there are softer factors that come into play when measuring the health of a country’s economy. Here are some questions I look to answer when thinking about a country’s economy historically, now, and in the future.
How diverse is the economy, and how resilient is it to shocks? In other words, is the economy primarily focused on one sector or resource?
Is the country an importer or exporter? Does it provide goods or services? Often, countries must decide whether they import or export based on the physical resources and skill sets within their borders. The demographics, cost of labor, currency strength, and resources will also play into what and how much they export a good or service versus what they import.
What is the country’s geography, and how has it changed over time? What advantages or disadvantages does it provide? Geography is critical in determining not only natural resources but also what skills a country possesses. Up until recently, easier terrain and waterways created opportunities for trade and the exchange of goods and ideas. Infrastructure has also commonly been built out with trade in mind.
Is the country a leader in education, technology, and innovation? This will vary depending on what a country has been exposed to over time, its culture, and the resources its citizens have to compete globally at an intellectual level.
What are the country’s demographics? That is, are its citizens predominantly young or old? Are there booms and busts in the population due to times of prosperity and times of hardship? How is the country creating policy around this structure? Population pyramids are a great way to visualize this concept.
What does the country’s governance (in terms of both government and shareholders) look like? How does the country get along with its neighbors? How long has the current government structure been in place? Is the country led by a single ruler, or does it have a leader and a subset of representatives?
In the case of shareholders, what is the board structure like—does independence from the company matter? How are shareholder votes determined? What policies does the company have in place to protect it from activist investors?
A Focus on Currency
Next, let’s explore the questions and data that can determine how a country’s currency operates.
How is the currency structured? Does the country have its own currency, or is its currency pegged to another country or entity? (“Pegged” means its currency is tied to the level of another currency such as the U.S. dollar.)
Who is in charge of monetary policy? Is the central bank independent of the government? If the country is pegged to another currency, are the economies of the two countries related to one another, or could the country that acts as the peg change policy and create volatility in the other?
How frequently is it used at the global trade level? Is the currency utilized widely outside its borders? What other countries or trading partners have large amounts of their currency or debt? Are other currencies utilized within their own borders frequently without it being the national currency?
Turning back to the data, the following factors can impact currency values.
Interest rates and inflation. How do interest rates in one country compare to another or the average around the world? Why are rates set at their current levels? If currency risk is not included, typically the country with the higher interest rate will attract capital from countries with lower rates. Are prices rising or falling and why? Do they need to use monetary or fiscal policy to drive price stability?
Growth rates. How fast is the country expected to grow this year and in the future versus other countries?
Purchasing power. How much can one unit of currency versus another buy in terms of a specific good?
A Complex Case
The goal here was to provide a perspective on what to think about when making investment decisions at a country level, whether that’s exposure to the U.S. or internationally. Headlines, sentiment, and data can be a lot to process, as countries are complex entities. Our views are shaped by our individual perspectives, experiences with a country, the people who live there, and how we see the country portrayed in headlines, sentiment, and data.
I hope you find this discussion useful when examining investments at the country level. And keep in mind that one of the best ways to gain more insight into any country? Seeing it for yourself.
