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'Fortune and glory, kid': the untapped potential of frontier markets

'Fortune and glory, kid': the untapped potential of frontier markets

Sometimes fund managers like to play Indiana Jones, picking up their whips and satchels and establishing themselves in promising but fledgling economies.

Frontier markets may not necessarily be an area on investors’ radars right now, due to the torrid time it has had over the past 12 months. The MSCI Frontier Markets index is down 12.7% over the past 12 months, while the MSCI Emerging Markets index has fallen by 9.5% (both in sterling terms).

However, despite the risks involved, investing in frontier markets can prove fruitful over the long term.

Untapped potential

Zain Latif, founder of TLG Capital – an investment firm that specialises in frontier markets – believes African markets, particularly Ghana, Liberia and Uganda, have untapped potential that investors would struggle to find in the likes of Brazil and China.

Latif, who founded the company in late 2009, notes that emerging markets like India and China are ‘well banked’.

‘Competition among SMEs is minimal in frontier markets and yet they are required services, so we have more of an edge and we’re cementing our reputation.

‘For example, Cipla built our aids and malaria factories in Uganda. One of our Nigerian partners, Grace Lake Partners, has one of its businesses partnered with French advertisers JCDecaux. Working with local entrepreneurs is the holy grail and we would not be able to replicate this in China.’

Kevin Snowball co-founded PXP Vietnam Asset Management in 2003, a boutique investment firm focusing on Vietnamese equities. He is also portfolio manager of the PXP Vietnam Emerging Equity fund.

He believes that a number of economies in the far East, not least Vietnam, could ultimately benefit from the trade war between the US and China. Although tensions appear to have frozen for the time being, he suspects that companies will seek to spread their production base.

‘Vietnam is a proven base for electronics. Companies are realising that to have all their production in China doesn’t make sense because of supply chain disruption.

‘We will see companies moving to Vietnam to ensure they don’t have issues again in future. Vietnam is a beneficiary of the trade war – they export clothing and are self-sufficient in food. People will need those,’ Snowball explained.

He believes that if ‘the worst comes to worst’, Vietnam will have a soft landing.

‘We still have foreign direct investment (FDI) and we will see economic expansion as a result. We have a pretty stable currency and a government that’s stable so that all looks pretty good. We expect a much better year this year compared to last.’

Overcoming liquidity constraints

Sam Vecht, co-manager of the BlackRock Frontiers investment trust, notes that investors looking at frontier markets have to contend with an uneven small/large company ratio and low liquidity levels.

‘Understanding the economic and business cycles of the underlying countries is a crucial part of the stock selection process, and is especially important given the low levels of liquidity in frontier markets, which can fall further when the economy worsens,’ Vecht (pictured below) said.

‘Frontier countries can have a disproportionate number of smaller companies and it can be more challenging to move money in and out of shares than is the case with their bigger emerging market counterparts,’ he added.

Fortunately, his closed-ended structure means that BlackRock can manage flows more effectively in line with liquidity constraints, unlike some open-ended funds.

The opportunities

So, where do the opportunities lie across frontier markets?

Latif highlights My Bucks, a fintech company operating across Africa, as a stock to watch. TLG has been invested in the company over the past four to five years.

‘If you want to see GDP grow, anything that lends cash or liquidity to consumers is critical,’ he said. ‘They’re innovative – they opened a branch in a refugee camp in Malawi in partnership with the UN, facilitating small scale enterprises within the camp. If you can learn to bank the unbanked, refugee camps are areas of great economic activity, unbeknownst to people.’

Meanwhile, Snowball urges investors not to overlook opportunities in frontier markets.

‘We just passed our 15th anniversary managing money. When we started the market had 22 listed stocks and a total market cap of $160 million. The market turned over $75,000 a day for the three days a week it was open, for an hour.

‘Fifteen years later the total market cap is $160 billion and turnover $140- $200 million dollars a day – down from a year ago when the market turned over $375 million. Risk has gone off, as it were,’ he said.

Vietnam has one of the strongest economies in the world, similar to that of China's 15 to 20 years ago, he added.

‘It’s opened up to foreign capital, with the two main drivers being FDI and exports.

‘As the population becomes less poor, domestic demand becomes a big feature. That’s the story in China and it will be a similar one here,’ he said. 

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