Trade wars and collateral benefits

two freighter ships, one painted with the flag of China, the other with the flag of the U.S.A.

Throughout the past year, most headlines have focused on the U.S. and China trade war. Many investors ask whether it’s a good or bad thing for frontier markets. Generally, in my view, anything that hurts trade between the two largest economies in the world usually has negative outcomes. As well, any additional friction when shipping products from country A to country B is generally inflationary. And it’s clear that products from China are becoming more expensive.

Buried below this negative news flow was another headline that caught my attention: Canada’s own Gildan Activewear announced it was setting up a textile factory in Bangladesh. Gildan dominates casual wear production for key clients such as Walmart and Target in the U.S. Historically, a company like Gildan would have built production capacity in China to remain cost competitive, but in this case, its first Asian expansion was in the South Asian textile hub of Bangladesh.

This is what I call one of the “collateral benefits” of a trade war, and I expect frontier markets will capture the lion’s share of the benefits. But not every frontier country: the key winners are Vietnam, Cambodia and Bangladesh. Companies that manufacture low-value goods continue to shift their capital spending away from China and into these three countries. Other frontier markets are growing well, but as seen in Chart 1, which highlights exports by region, these three are becoming the “all-stars” of the frontier asset class.

Chart 1: Exports by region
Export index (USD, 2009-10 = 100, 3mma)
Note: The “new Asian tigers” are Vietnam, Cambodia and Bangladesh. Source: EM Advisors Group.


This trend is exemplified by another Canadian company, Lululemon. As seen in Chart 2, it started reducing its exposure to China over five years ago, and now produces the majority of its clothing products in frontier countries. 

Chart 2: Lululemon production by country
Lululemon production has shifted away from China to South/Southeast since 2010
Source: Company filings.


Footwear is also demonstrating this trend, as shown in Chart 3. Feng Tay, in Taiwan, is one of the world’s largest manufacturers of Nike shoes, and Feng Tay now produces over 50% of its shoes in Vietnam, while China accounts for only 11%.

Chart 3: Feng Tay production by country
Feng Tay Production by Country (%)- 2017
Source: Company filings.


Companies have evidently realized the benefits of moving low-value manufacturing out of China for years. So has the trade war had any current impact? It is still early days, but Chart 4 highlights some interesting data: it highlights a sharp acceleration in acquisitions in frontier companies by Chinese buyers in 2019. This would seem to be a logical development: most Chinese companies are reacting to trade-war news flow and seeking country diversification. In my view, this could be a very powerful trend, because China-only production risks are moving up sharply. Any company would be keen to balance these risks, so if the trade war continues, that acceleration is likely sustainable.


Thanks for reading,

Adam J. Kutas, CFA

Chart 4 – Acquisitions by Chinese companies in frontier EM countries
Deal value (US$ bn) vs. Deal count (rhs)
Source: Bloomberg.

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