Population age structure, industry return, and portfolio strategy: Capitalizing on the trend of population aging in China

Abstract

In this paper, we develop a framework to establish an explicit relationship between population age structure and industry returns. Our model suggests that shifts in population age structure lead to varying aggregate demand dynamics across industries, which would translate into cash-flow news affecting industry returns. We propose a semi-structural approach to estimate this relationship and incorporate it into portfolio strategies within an improved Black-Litterman framework. Using Chinese data, we find that leading demand changes driven by population shifts have significantly positive effects on industry returns. Our population-based portfolios consistently outperform the benchmark portfolios in backtesting. Furthermore, incorporating population age structure into portfolios generates modest yet significant positive alpha returns, after controlling for Fama-French factors. We also identify both well and poorly performing industries in China under the future trend of population aging. Our findings are practically relevant for institutional investors seeking to capitalize on a nation's demographic transition.