Book Review: Demographics Unravelled
Demographics are destiny. This cliché will cause some investors to nod their heads in agreement, yet it provides little meaning. Demographics are often used to bolster an investment narrative, yet the rich details on their link with asset returns are often missing. Amlan Roy, an economist working on the intersection between demographics and investments, provides a comprehensive review for how the study of population affects many of our core investment and policy decisions.
This volume covers all issues associated with population dynamics, from aging to geographical movement, and can serve as a comprehensive guide on how demographics affect asset pricing, pension management, health, retirement, and policy. Rather than just a problem of birth, deaths, and aging, Roy frames demographics as a driving factor on returns from the combination of tastes and numbers. Population numbers count, but tastes and the changing behaviors of different age groups drive markets.
The book is divided into six major topic areas: core demographic foundations; population dynamics; the impact of demographics on the macroeconomic environment; the link between demographics and asset prices; problems of health and longevity across populations, pensions, and retirement; and the effect of demographics on quality of life, gender, governance, and sustainability. Each topic is linked to long-term returns and relative prices across asset classes and market sectors.
The core population issues, which are the base for demographic analysis, are all well presented. Aging, life expectancy, fertility, and dependency generate economic problems that must be addressed by both investors and policymakers. Population changes generate headwinds and tailwinds for policy and asset prices that cannot be escaped and do not have simple solutions. Roy discusses how decisions made more than a generation ago will support or plague future generations, forcing countries to transition between population shortages and excesses. One country may face birth excesses while another grapples with aging. Each affects capital allocations and returns. Roy, through clear graphical analysis, highlights the dynamics of these core issues.
The demographics and macroeconomics chapter drives home the core observation that population dynamics create market constraints. Demographics affect economic growth, living standards, inflation, public debt, capital flows, and exchange rates. The dynamics of population influence relative country growth as consumers age and move through their life cycles. The population mix sets policy preferences through voting and drives policy choice constraints. Bulges in population will constrain opportunities for both older and younger citizens.
Roy dusts off the core consumption theory (the life-cycle and permanent income hypotheses) and links population changes with asset price behavior. As populations move through the aging process, their behaviors switch from spending to saving and thus influence the demand for risky and safe assets. Whether it be the equity premium or real interest rates, population dynamics will always pressure returns. As is well-documented for China and India, population dynamics coupled with tastes also drive commodity markets. Roy emphasizes the critical point that age by itself does not drive markets. The combination of population and tastes generates demand pressure on markets.
Populations desire to survive and extend longevity, so health becomes a core focus with respect to expenditures. Just as fertility drives demographics, life extensions stretch the population with new demands. As incomes rise, there is a corresponding change in the composition of populations, and the demand for better health services increases. Longevity changes tastes and marches headlong into issues surrounding quality of life.
Longevity and the aging of the population focus on the key investment issues of retirement and pensions. Flowing back to consumption models, Roy explains how if you expect to live longer, retirement planning and health care costs become even more important. When aggregated across generations, pension decisions weigh critically on returns and the asset management and insurance businesses. Trillion of dollars are being allocated to address a highly uncertain problem. Who will pay and at what costs are critical pension issues that are only exacerbated when the population structure bulges for older generations.
The book ends with a discussion on such core issues as quality of life, gender, governance, and sustainability. Views toward gender and work upend many past demographic assumptions. Longevity shines a spotlight on happiness and life quality, while intergenerational transfers represent more than wealth and include the state of the world. These issues are hard to quantify, but Roy provides a holistic approach through connecting these topics to the core assumption that demographics coupled with tastes define our future.
Demographics Unravelled provides an extensive and well-documented review of the finance and economic research influenced by demographics. This allows the reader to be exposed to the key topic research; however, it makes for a lengthier and less lively work that at times reads like an academic literature review with an author citation and conclusion approach. The graphics are extremely helpful in visually telling the demographic story, but these complex graphs are at times hard to read in their black and gray template.
Roy does provide in one volume everything an investor should know about the impact of demographics on investing; nevertheless, connecting the research to core investment questions would have resulted in a more compelling story. Given the author’s long history of consulting in this area, it would have been helpful to show readers how to integrate the background research with investment decisions. For example, how should a pension investment committee use this information to improve allocation decisions? The answers are not immediately obvious.
While demographics are destiny, our future can change with the right thinking. Demographics drive demand and pricing, but with the right lens, we can see these trends better and adapt to these headwinds and tailwinds. If a reader wants to be up to speed on demographics, this is the book to read. Demographics Unravelled should generate deeper discussions on the integration of demographics with investing, and if investment committees take the time to integrate this thinking, the result may be better performance.
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All posts are the opinion of the author. As such, they should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute or the author’s employer.
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