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Emerging Emerging Markets.

In the ongoing search for opportunity, investors are looking to the next Emerging Markets; so-called Frontier economies. Investors may find Frontier Markets are better suited to hands-on active management.



It wasn’t that long ago when the idea of investing into something called Emerging Markets (EMs) was enough to raise an investor’s arm hair. Today, Frontier Markets (FMs) as the next EMs elicit a similar response.

Like EMs at one time, the perception of many FMs is decline, disease, famine, war and dictators. For some of these markets, however, the reality is radical economic restructuring, improving economic fundamentals, steady growth, low inflation, and more stable currency exchange rates. Expect crisis headlines to offer opportunity. And expect adventurous investors to bet that crisis headlines translate into higher returns.

Still, given lack of transparency, legal systems and reliable timely reporting, FMs may be better suited to boots-on-the-ground active management.

So far, FM investors have had a wild ride. FMs are at least as volatile as EMs. Further, of the three broad FM Exchange Traded Funds (ETFs), there is no clear or preferred choice. Each has a different Frontier index. Each has very different exposures.


Frontier Markets are the next Emerging Markets

MSCI Frontier MarketsThe investment premise is that FMs are similar to what EMs once were – underdeveloped countries that are experiencing rapid economic growth with the help of globalization. 31 countries from Eastern European, Asia, Africa, Latin American and the Middle East are included in the MSCI FM universe. Countries, with names like Estonia, Tunisia and Mauritius might generate the same response from the investor as EMs once did. Are you kidding me?

Emerging Markets have … Emerged

Today, if an investor is to participate in global growth, it’s almost essential to have an EM exposure. As at June 30/12, EM market capitalization was 12.5% of World equity capitalization. And according to the International Monetary Fund, EMs are where future economic growth will be.

Like EMs a generation ago, FMs are perhaps the last cheap labour source on the planet. Today, FMs exhibit many of the same investment risk and return characteristics that EMs did that made them an attractive choice for portfolio diversification and return opportunity. Higher growth rates, lower valuations, low correlations and negative perceptions – Investment Mecca for the long-term investor.

That’s the investment premise.

How have FM investors done (Click chart for full size. Data source 2007- 2012 MSCI)

Frontier Emerging World Markets




Frontier Emerging World Markets table

(Nov 07 is the inception date of the MSCI FM 100 index).


The graph reminds investors that equities are equities and equities can be volatile and EMs and FMs are every bit if not more volatile as Developed Markets (DMs). (MSCI World is used here as a DM bogey).

The Dark Side of Low Correlation

The table shows us that, indeed, FMs do have lower correlation. While EMs and DMs have zig’d since Q1, 2009 market low’s, FMs continue to zag. FMs dumped the same as EMs and DMs did (from peak to trough) but FMs have yet to recover as have EMs and DMs. Bummer for investors that have already jumped on the FM bandwagon. (The bet may pay off given more time).

The relative lagging behind of FMs is in part a reflection of current investor preference for larger cap, blue-chip, and liquid, dividend paying stocks in DMs or major names in EMs.

The lag is also a reflection of large European banks previously significant lenders to EMs and FMs now curtailing their lending activities as they deleverage themselves.


Should DMs become less steady, FM exports will surely suffer. Further degradation of large Euro Bank lending to FMs will have a negative impact on FM capital inflows and inevitably FM growth. (Could this be an opportunity for FM Banks)?

Just like EMs weren’t the place for the volatility-adverse investor, FMs won’t be the place for those investors without a long-term view. Nor will FMs be the place for large bets. But with globalization and continued higher growth rates, expect Frontier countries to complement a portfolio with different risk characteristics and therefore deliver a different return pattern.

From an economic standpoint, as EMs cross over into the developed world (DMs), expect FMs to become the new Emerging candidates.

Frontier Market ETFs

Guggenheim Frontier Markets (FRN)
Powershares MENA (Mid-East, North Africa) Frontier Countries (FMNA)
iShares MSCI Frontier 100 (FM)

References, The emerging emerging markets  Businesses will learn to look beyond the BRICs, Nov 2010
Financial Post magazine, Big gain hunting, Dan Bortolotti, September 4, 2009
CFA magazine, Sept-Oct 2008, cfm.v19.n5, Frontier Markets
Globe and Mail, Emerging emerging markets present new frontier, David Berman, June 13, 2008


Next time? More Risk Management.
Doug Cronk CFA is Manager, Investments for a Canadian Pension Plan
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