Does this mean Equity markets will remain shut for companies for coming years??

Barring an extraordinary change in investor behavior in the largest emerging economies, the role of equities in the global financial system will likely be reduced in the coming decade. That's the central finding of The emerging equity gap: Growth and stability in the new investor landscape, a new report from the McKinsey Global Institute (MGI). As emerging-market households attain a level of income that enables them to purchase financial assets, they are becoming a powerful new investor class, whose choices will help determine global demand for different asset classes. The actions of these new investors will, in turn, shape how businesses obtain the capital they need to grow, how other investors around the world fare, and how stable and resilient economies will be.

The MGI study found that financial assets held by investors in developing nations have been growing at more than three times the rate of assets in developed nations, raising their share of global financial wealth from 7 percent to 21 percent over the past decade, or about $41.3 trillion. By the end of the current decade, investors in developing economies will hold as much as 36 percent of global financial wealth, or between $114 trillion and $141 trillion.

Emerging-market investors currently behave differently than those in mature economies. Investors in Europe, the United States, and wealthier parts of Asia, such as Hong Kong, hold 30 to 40 percent or more of their financial assets in equities, but the new investors of the emerging economies keep three-quarters of theirs in deposit accounts. While the use of equities in developing economies to finance growth and build savings is increasing, this evolution is taking place slowly. The likely result: a shift in the global allocation of financial assets toward deposits and fixed-income instruments and away from equities in this decade. This shift is being exacerbated by aging and other trends in the developed world that are dampening investor appetite for equities. As a result, equities could decline from 28 percent of global financial assets in 2010 to 22 percent in 2020.

What's behind the slow adoption of equity investing in developing markets? For an equity-investing culture to take root, there must be trusted, transparent markets with strong protections for small investors, as well as the institutions and systems to provide easy market access. Rules and regulations may be in place in emerging markets today, but enforcement is often unreliable. When the correct conditions are in place, investors are likely to gravitate to equities for higher returns.

In the meantime, even though total investor demand for equities will grow over the next decade, it will fall short of what corporations need by $12.3 trillion. This imbalance between the supply and demand for equity will be most pronounced in emerging economies, where companies need significant external financing for growth. In the United States and several other developed countries, investor demand for equities will exceed what companies will need, partly because many companies in mature economies generate sufficient profits to finance their growth. In Europe, however, allocations to equity are already falling, while the need for additional equity is rising for banks that must meet new capital requirements, making a significant equity gap likely.

The market will adjust to close this gap—but it will do so through a higher cost of equity to companies, which may prompt many firms to use less equity and more debt to fund growth. This will have ramifications for the global capital markets system, economies, and businesses alike.

 MGI_Emerging_equity_gap_Full_report.pdf