Historically, global investment flows to the Asia Pacific region were aimed at leveraging the potential growth of emerging and advanced economies. Over the last decade, global asset managers and institutional investors have been able to generate strong and stable returns from various asset classes by taking advantage of low capital costs, booming consumer markets, technological innovations, and improved regulatory and governance environments.
But at a moment when geopolitical tensions are high, strategies for investors investing in the Asia-Pacific region – and in many other markets – are changing rapidly.
In the past, investors’ focus was squarely on the critical issues of risk and return – and the politics of the countries where their money was being invested have always been a consideration in determining the risk and return. But today, investors are considering the intersection between their home country’s national interests and those of any particular country.
Diversification or Distraction?
Global investments used to be a surefire way to diversify a portfolio. With a national interest overlay, that opportunity set is shrinking and shifting.
Imagine a two-by-two matrix: On one side, risk-adjusted return. On the other side, alignment with the investor’s domestic national interest. Of course, if a country looks to have low return potential and a low alignment from a geopolitical perspective – most investors would put Russia in this category – that market would essentially be deadweight in a portfolio and not attract investment.
The opposite case – think India, with its growing economy, favorable demographics, and government reforms – would naturally be a desirable destination for foreign direct investment.
Decisions become more complicated when results are mixed. High alignment on national interests but lower potential for returns is a comfortable investment that will add little value in the long run, creating a drag on a portfolio’s returns.
The inverse is the most complex, and the most distracting for investors – when there is a high likelihood of return in a certain market where geopolitical concerns exist. It is tempting to invest there because of the high return potential, but it presents significant reputational risk.
Investors in Asia Harness Growth Amid Geopolitical Flux
This dynamic is particularly evident in the Asia-Pacific region. I had the privilege of discussing this issue with some of the region’s largest investors at the recent Milken Global Conference, highlighting the shifting dynamics due to geopolitical influences and the strategic realignments necessitated by these changes.
China’s influence, and more precisely its relations with the United States, casts a long shadow over capital flows in the region more broadly. Andrew Cross, CFO of the Beijing-based Asian Infrastructure Investment Bank (AIIB), detailed the bank’s governance structure designed to prevent any single nation or shareholder from dominating its portfolios, “irrespective of their size of equity.” This ensures a balanced and multilateral approach to investments, said Cross, whose organization’s apolitical nature is codified by the United Nations. “The value of multilateralism is that despite external national interest, [countries] come together for a common mission.”
While AIIB’s multilateral design affords it a fair deal of flexibility, pensions and sovereign wealth funds are often inextricably linked to the commercial and geopolitical situations of their home countries. Meanwhile, governments are more comfortable mandating the sort of investments public funds should or should not make.
“At some point in time, we suspect government will probably have a say,” said David Elia, CEO of Hostplus, the Australian superannuation fund with more than $100B in assets under management. “They did it certainly with Russia. […] There was an expectation on the part of government that you would basically take your money out. So, I suspect that over time, we will find that government policy will, to some extent, influence the way we go about investing our money in particular areas.”
This is indicative of the larger shift taking place across capital markets, with investors compelled to adopt a “national security lens”. With security considerations now in play, cross-border investment opportunities are becoming scarcer. Economic security and national security are increasingly merging as governments emphasize securing access to essential resources like food, energy, and infrastructure.
“Fifteen years ago, we were just so excited about China,” recalled Elia. This approach evolved to avoid sectors that compete directly with Chinese state-owned enterprises. “In Australia, we own all the major airports, the toll roads, energy assets, ports, the whole lot. Could you conceivably see that happening in China? I think the answer is no.”
Hazman Hilmi Sallahuddin, Chief Investment Officer of Kumpulan Wang Persaraan (KWAP), which manages the pension scheme for Malaysia’s public employees, shared a similar perspective.
“Two questions come to mind. One is, what do you consider as strategic investment? And second, what do you consider as strategic returns? It’s quite common when we talk about strategy, people assume it’s IRR neutral, or no returns, or negative returns,” Sallahuddin said
“I think for us, it’s very important to establish what is the threshold for strategic returns. And once we agree, then we also have to define what are considered as strategic sectors for both the country as part of the alignment as well as for the fund. So as far as KWAP is concerned, we are in that phase – a discussion point on how much we define as strategic returns threshold.”
As globalization begins to wane in the face of these complexities, a preference for domestic investment is emerging. This is apparent in Australia, according to Victoria Fund Management Company (VFMC) CEO Kate Galvin. VFMC, the sovereign fund for the state of Victoria, has put an emphasis on investments inside Australia.
“We have about 40% […] of Victoria’s funds invested globally, but about 40% of that is invested in Australia. I think it’s always good to invest in what you know; we think Australia is a good place to invest,” said Galvin.
As geopolitical tensions influence global markets, the integration of geopolitical analysis with traditional investment strategies has become not just beneficial, but imperative for investors aiming to navigate increasingly complex markets. Successfully merging these distinct fields requires a systemic integration that goes beyond surface-level adjustments. This approach ensures that investment decisions are forward-thinking and aligned with both current realities and future opportunities.
