As India Overtakes China in Population, Will Its Stock Market, Too?

Is India’s stock market a better long-term bet than China’s?

Some economists think so, now that India is on track to become the world’s most populous nation. Demography, they believe, is destiny.

While China’s population has long been the largest in the world, the two countries are now neck and neck, at roughly 1.4 billion people each, according to the United Nations. India will be No. 1 sometime this year, if it isn’t there already. And by the year 2100, India’s population is projected to be 1.5 billion, while China’s is projected to be 800 million.

A larger population doesn’t automatically translate into a stronger economy or a better-performing stock market, says Alejandra Grindal, chief economist at Ned Davis Research. The more important variable when projecting economic growth is the size of the working-age population. When it comes to the stock market’s long-term prospects, furthermore, it is the size of “the maturing age population that is important,” she says.

The MO ratio

The indicator that perhaps best captures the relative size of these two groups is the so-called MO ratio, says John Geanakoplos, an economics professor at Yale University. The numerator of this ratio—“M,” for middle-aged—is the number of those ages 40 to 49, while the denominator—“O,” for old—contains those from ages 60 to 69. Prof. Geanakoplos is the co-author of an academic paper, published in 2002, documenting that demographic variables such as the MO ratio historically have been significantly correlated with the stock market.

Prof. Geanakoplos says the correlation stems from the fact that the MO ratio is a good proxy for how many people in a country are saving and investing for retirement relative to how many are withdrawing money from the stock market to pay for their retirement. When the ratio is high, there are more savers and investors relative to spenders, which means that capital will be relatively plentiful and interest rates will be lower than they would otherwise be. That in turn means that the discounted value of companies’ future earnings and dividends will be higher. When the ratio is low, in contrast, interest rates will tend to be higher and the present value of future earnings and dividends will be lower.

Prof. Geanakoplos adds that the absolute level of the MO ratio is less important for the stock market’s prospects than its trend. That poses a special challenge to China’s stock market over the longer term, since the country’s MO ratio is projected to decline precipitously over the next several decades—from its current 1.32 to 0.73 in 2050, according to data from Ned Davis Research. This means there will be nearly a doubling in the number of retirees in China pulling money out of the economy and the stock market between now and 2050, relative to the number who are saving and investing.

“Insofar as demography is destiny” Prof. Geanakoplos says, “the long-term prospects for the Chinese stock market are relatively poor.”

India’s MO ratio, in contrast, is projected to decline at a more moderate pace over the next three decades compared with China’s, from its current 1.98 to 1.34. That means that, though demographic factors will be headwinds to both countries’ stock markets in coming decades, not tailwinds, those headwinds will be stronger in China than in India.

Other factors

Ms. Grindal says that while the impact of population trends shouldn’t be minimised, there are many other factors—both political and economic—that will influence the two countries’ economics and stock markets in coming decades.

To put into perspective the demographic headwinds that China and India will be facing, consider the U.S.’s MO ratio. According to Ned Davis Research data, the ratio is projected to rise from its current 1.01 to 1.31 by the end of the 2030s, before declining to 1.15 by 2050. This increase will come as a surprise to many, given recent media attention to Social Security’s financing shortfall. But, Ms. Grindal points out, the millennial generation “is about the same size, if not slightly larger, than the baby boom population,” and is about to enter the 40-49 age cohort. That’s largely what will cause the U.S. MO ratio to rise. Relative to China and India, in other words, the U.S. MO appears quite favourable.