Let’s put the Frontier Markets into a bit more perspective. You may have already heard that in September we will launch the Silk Road Frontiers Fund. This fund will provide investors with a diversified access to the new and fast growing equity markets everyone is now talking about.
Did you know that more than 85% of the markets that make up the MSCI Frontier Index are located within Africa, Middle East and Central Asia?
If you think about it, this shouldn’t come as much of a surprise when you consider that this is where a great deal of the people on this planet live and frontier markets are all about those people becoming more affluent. At Silk Invest, our goal is to capture this value for investors, our team is mostly made up of natives from across this territory, many of them with a local presence on the ground. This gives us the advantage of local insight and perspective needed to successfully harness this grand investment opportunity.
Defining Frontier Markets
In essence, the main definition of ‘Frontier Markets’ is the category that consists of the markets that are not included in the major emerging market indexes. More informally and regardless of where we decide to draw the ‘frontier line’, there are a series of markets that, despite still being of small size, are fully functional and are growing very rapidly. They are growing so fast because their underlying economies are expanding at above average rates. Investors are starting to accept this reality and now they are increasingly seeking to allocate a portion of their portfolio to this region.
Let’s have a closer look at these markets. As per the composition of the MSCI Frontier Markets index on the below chart, the first thing you will notice is that Kuwait takes up a rather disproportionate percentage of the weighting. The main explanation for this is that market indexes have a big responsibility and must take into the ability of markets to accommodate allocations in terms of size and liquidity. Kuwait, is one of the most developed ‘frontier markets’ and therefore it takes up around one third of the index. Does this really makes sense? Arguably not, but then again, much of the same can be said of indexing markets in the first place but that is another very long debate…
You may also have noticed that 67% of the above index is made up of Middle Eastern markets. This comes as a surprise for many. We observe from our numerous contacts with investors that there is a genuine belief in frontier markets and a growing desire to invest there. Ironically, many of the same people are hesitant to invest in the Middle East. This may be absurd but is not surprising and, as always, it is all about perception and the need to simplify things. You can’t really blame investors for not fully understanding all minor dynamics in the very plural world off frontier markets. Their recent apparition means that, all of a sudden, investors have an additional 30-odd markets to consider! A tall order, considering that things already were quite complicated, especially in the habitual markets.
Inevitably, all this brings us back the argument that the Middle East is undervalued. If you believe that global investors will allocate more investments to frontier markets in the near term, then more money will flow into the Middle East, simple as that. The chart below illustrates that the Arabian markets are trading at a generous discount when compared to other markets.
It is only a matter of time before investors get to know the true identity of these brave new frontier markets. The good news is that the story is simpler than most people think. It’s all about growth that comes as a result of natural economic drivers.
Most of these countries have a strong financial position, free of the debt burden that developed markets have to cope with as a headwind. They need better infrastructure and are in a position to install it. They have people who aspire to a better future, often very large numbers of people who are now increasingly connected to the world and have more and more access to information, this makes them want more things which generates higher demand; it underpins the creation of local enterprise which in turn results in more employment and an increased formalization of the local economy, finally resulting in an increasing trend in GDP/capita. It is growth, unconstrained by debt, the kind of thing we dream about in Europe.
What often gets in the way for investors to get involved is the fear of ‘political risk’. Let’s be honest, Is this really a problem big enough to keep you away from this opportunity? There are so many frontier countries to invest in and more of them that are on the way to opening up to global markets. This means that the investor can protect himself by diversifying between all these promising economies. Indeed, some countries may fail to excel while many others will surprise us on the upside. Forecasting the winners and the losers has always proven to be difficult. Investing in frontier markets is not an ‘all-in’ proposition, a small allocation to these markets is likely to improve the profile of your portfolio. Finally, if they are not doing so already, with all the media coverage. If you invest for cleints, it is likely that they will start asking you about these markets sooner rather than later…
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