Demographic changes in the U.S. are coming down the pipeline fast, and they're turning historical norms about economics on their head. For example, a long-held belief that the economy needs to create around 150,000 jobs just to maintain a stable unemployment rate flies in the face of recent experience, as the unemployment rate has dropped despite weak new-job figures. And despite low single-digit GDP growth, corporate profits are rising. So what's going on, and how does it affect our investments?
The reason you can throw old expectations for employment and economic growth out the window is simple: We have a rapidly aging population. In fact, we probably don't need to add many jobs to the workforce to lower unemployment these days, something that has an impact on unemployment benefits, entitlements, GDP growth, and the growth of U.S. firms. Below I've highlighted the trend toward retiring workers and what you should watch for in your investments.
We're losing workers faster than we can replace them
Some see a declining labor participation rate as a sign that workers are discouraged, but I point to this as the biggest sign that older workers are retiring and simply leaving the workforce. We're adding young people to replace the older ones who are retiring at the rate we have since World War II, and we may be starting to head backward.
In 2000, there were 40.7 million people ages 10 to 19 ready to replace 24.3 million people ages 55 to 64 who would presumably reach retirement age over the next decade. That's a 167% replacement rate for retirees.
By 2010, there were 42.7 million people ages 10 to 19 who could replace 36.5 million people ages 55 to 64, a 117% replacement rate. As you can see, the number of workers reaching retirement age is exploding. If we look out another 10 years, the younger population will be too small to replace retirement age workers. It's no wonder that our labor participation rate is down and people are leaving the workforce. They're retiring!
This demographic shift has a huge impact on things like the cost of social programs, but it also means that GDP growth will slow, and so will the number of jobs created each month -- even if the unemployment rate goes down. In the past, it has been this growing number of workers that has helped grow GDP, but that trend won't continue.
The impact of an aging population doesn't just impact the government's tax receipts and spending. It also impacts companies.
What it means for your investments
In light of these trends, I'm looking at three things in my portfolio. First, I'm keeping an eye on international exposure for growth instead of looking domestically, especially in diversified companies. Here are three companies pushing internationally for growth.
- 3M (NYSE: MMM) grew into an international power on the back of the growing U.S. economy in the last century but it has turned its gaze overseas for growth. The company generated 66.1% of sales internationally last year, giving exposure to many strong emerging markets.
- Gambling is growing worldwide and Las Vegas Sands (NYSE: LVS) has exposure to two of the fastest growing markets -- Macau and Singapore. For an even more leveraged play, Melco Crown (Nasdaq: MPEL) gets 100% of its revenue from Macau.
- Apple (Nasdaq: AAPL) has been growing quickly in the U.S., but it's China that has provided some of the company's most recent growth avenues. The company's sales in China, Hong Kong, and Taiwan tripled in the first quarter and may double in 2012.
Valuation multiples of companies with exposure to Asia and Latin America should also outpace those of companies focused domestically. So when you think a U.S. company that has historically traded for a 20 P/E looks cheap at a 15 multiple, there may be reason to think again if growth will slow in the U.S. market.
Second, I watch for demographic risks like pension obligations that can sink a company. General Motors was forced to go through bankruptcy largely because pensions and medical costs for retiring workers were exploding. Ford (NYSE: F) is trying to shed liabilities by offering a pension buyout to retirees and former workers. The few companies that still have pensions, including General Electric (NYSE: GE), Boeing, and 3M, are subject to growing liabilities and may be forced to make sizable contributions to keep up with retiring workers. As workforces age and growth slows in the U.S., these liabilities have become a huge problem, and it's likely to persist.
Third, I think real estate may be in for a tough run. Those hoping for a strong recovery in housing and commercial real estate may be in for a long slog for the next two decades. If the workforce shrinks, there should be less need for commercial real estate, putting pressure on a market that was predicted to go bust a few years ago.
In housing, the number of households will eventually stop growing as retired workers move to nursing homes, in with family, and pass on. Growth in the workforce combined with a growing number of two-income families helped drive housing higher through the 2000s, but the trends are reversing, and housing will be in for a long run. Combine demographic changes with rising interest rates, and I wouldn't be surprised if housing prices don't go anywhere for another decade.
Foolish bottom line
There are a lot of trends that investors need to keep an eye on and demographic changes in the U.S. may have a bigger impact on your portfolio than you think. I expect slow growth and a shrinking workforce to have a big impact on how and where companies invest in the future. Asia and Latin America should be looked to for growth instead of the U.S., and keep an eye on risks like pensions and housing that will be affected by an aging workforce.
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