Perspective

Why emerging markets could be the next digital frontier


The Covid-19 pandemic has accelerated the adoption of a number of trends enabled by the internet, such as e-commerce, on-demand video streaming and online gaming. This has increased the need to transfer, store and process data within digital infrastructure assets – something that we expect to continue as these trends continue to accelerate.

As investors in real assets in leading global cities, we believe that data centres and other essential digital infrastructure such as cell towers and fibre optic cable, present a compelling opportunity.

While mature digital hubs such New York are already highly developed, there are still plenty of opportunities to invest in what we call the “digital frontier”, which we believe will increasingly be found in emerging markets.

The advantage of getting there first

From its earliest days as a colonial trading post, New York has evolved into one of the world’s most highly connected global cities. The city was a key player in early cross-Atlantic trade and as Wall Street steadily grew in global significance, it became one of the two major financial capitals of the world. This created a crucial “first mover” advantage, paving the way for the city’s digital future.

Traders no longer need to meet physically as the city’s 76 data centres and sub-sea cables now provide access to the New York Stock Exchange from anywhere in the world. The city is also now home to 381 network service providers, making it a nerve centre for international communications that rely on the internet.

A significant advantage for the city is the vast number of sub-sea cables that terminate in the wider metropolitan area. And although the city only accounts for 1% of the land mass of the US, New York had a gross domestic product (GDP) of around $1.4 trillion in 2020.

A market of this size creates a gravitational pull for further data generating technologies which in turn attracts more consumers and businesses, meaning the gravitational pull grows even further. The arrival of 5G and the Internet of Things should accrue further value for incumbent investors.

Seeking the next digital frontier

As investors in the digital infrastructure of global cities such as New York, we are continually searching for the next connectivity mega-hub. This means exploring emerging markets that are yet to experience their boom in data production.

In 2018, we singled out China as an exciting emerging market for digital infrastructure and demand for data centre space in the country has subsequently rocketed.

Identifying the next digital frontier requires examining multiple factors. In its simplest form, the anticipated growth of a location’s GDP and its underlying digital services output is a strong indicator of potential success. GDP itself is driven by factors such as population growth, age profile and productivity levels.

Digital infrastructure presents a compelling investment opportunity

To convert this into digital GDP requires capital investment, for example modern digital infrastructure that is connected to future trading partners. One example is the infrastructure propelling terabits of data at lightspeed along sub-sea cables. Where these cables land we see opportunities for booming data processing and connectivity demand.

A good example is the Mombasa data centre operated by African infrastructure technology company iColo which connects the African continent to Europe via 15,000 km sub-sea cable, terminating in European data centre provider Interxion’s campus in Marseille (both companies are backed by Digital Realty). It stops off on the way in Djibouti City, where the world’s super-powers are wrestling over strategic influence.

The nation of Djibouti sits at the southern entrance of the Red Sea (leading to the highly strategic Suez Canal). With an increasing military presence providing security, it has ambitions to become the ‘Singapore of Africa’, despite being surrounded by relatively unstable nations.

Indonesia and Malaysia could benefit from Singapore’s saturation

Another connectivity mega-hub, Singapore, has now become so saturated with digital infrastructure that the government has placed a moratorium on new data centre development, given the sector’s draw on power.

This presents opportunities for neighbouring Indonesia and Malaysia, which benefit from significant population growth, accelerating internet penetration and new sub-sea cable landings. In 2019, Indonesia had a population that was roughly 50 times that of Singapore, yet it only hosted around one-eighth of the data centre capacity.

On this basis, its capital Jakarta looks well placed to capitalise, with local firms actively looking to raise development finance. Similarly, Chinese data centre operator GDS just announced a large campus development in Johor Bahru, Malaysia, just 25 km north of Singapore.

They received strong support from Malaysia’s Digital Investment Office which highlighted the country’s aspiration to become a digital economy hub, upskilling the local workforce and creating new jobs.

data-centre-chart.jpg

Elsewhere in Asia-Pacific, India has long offered potential given its large, young and IT-savvy workforce. Less than half of India’s 1.4 billion inhabitants are currently connected to the internet, yet this is more than double the entire US population.

We see Chennai on its eastern coast as following in the footsteps of Mumbai in becoming a major connectivity hub to watch.

For those more comfortable with developed nations, Perth in Western Australia is becoming a connectivity hub thanks to its new sub-sea links with Singapore, Sydney, Jakarta and Oman.

Networking to get ahead

Today’s equivalent of the 17th century great naval powers are in many ways the US-based tech giants – Facebook, Amazon, Apple, Netflix, Microsoft and Google – which are now all global businesses. More recently, Chinese competitors such as Alibaba, Tencent and state-owned telecom companies such as China Mobile have joined them.

If you dig into the sub-sea cable sector you will see their money backing major developments. For example, several more cable landings are planned into Djibouti, including 2Africa, which is funded by a consortium that includes Facebook, Vodafone and China Mobile. 

As their cloud-based digital empires push the digital frontier into new territories, these businesses are looking to secure the digital shipping lanes required to rapidly transit data to video streamers, multi-national enterprises and online gamers globally. When they land on the beaches these cables will need data centre capacity, cell towers and overland fibre to reach their end customers.

We are focusing on identifying the local incumbents that have already secured these major trading posts and we strongly believe that there are plenty of digital frontier opportunities left to invest in. 

The views and opinions contained herein are those of Schroders’ investment teams and/or Economics Group, and do not necessarily represent Schroder Investment Management North America Inc.’s house views. These views are subject to change. This information is intended to be for information purposes only and it is not intended as promotional material in any respect.