Investing’s New Frontier: Nigeria, Egypt, Kenya

Jan 2018
Global, January, 20 2018 - It wasn’t too long ago when small, frontier markets like Pakistan’s and Egypt’s were the hottest thing since ghost peppers. From the start of 2010 through the end of 2014, the MSCI Frontier Emerging Markets Index trounced the MSCI Emerging Markets Index each calendar year, and the frontier index produced a cumulative 43% return compared with emerging’s 11%.

Since then, the tables have turned and frontier has significantly underperformed, returning only 4.6% annualized over the past three years to emerging’s 11.3%.

What happened? First, there was a significant downturn for developing markets in 2015. “Frontier markets typically lag emerging markets on the way up from a slump,” says Scott Thomas, co-manager of the $196 million Wasatch Frontier Emerging Small Countries fund (ticker: WAFMX). “Some of this has to do with liquidity and capital flows, which go to the largest companies and countries first. The evolution of the emerging markets rally, which began in the first quarter of 2016, was extremely narrow. It reflected the large-cap effect and the passive indexing effect,” he says. Indeed, just a handful of giant, mainly Chinese, tech stocks such as Tencent Holdings (700.Hong Kong), which gained 114% in 2017, powered the MSCI Emerging Markets Index to a 38% return last year. The tech sector now accounts for 28% of the benchmark.

By contrast, the MSCI Frontier Emerging Markets index has a less than 1% weighting in tech; it returned 27% in 2017. Now that we’re in the midpart of an emerging market rally, Thomas argues, frontier markets should start to catch up and overtake bigger markets like China, Brazil, and South Korea: “I’m as positive as I’ve been on this asset class in years.”

Some countries’ stocks are extraordinarily cheap. “We have overweights in Nigeria, Egypt, and Kenya,” says Pradipta Chakrabortty, co-manager of the $524 million Harding Loevner Frontier Emerging Markets Portfolio (HLMOX). Nigeria and Egypt suffered severe currency devaluations in 2016 that bottomed out in 2017, he says, so the countries are both stock and currency plays.

The Global X MSCI Nigeria exchange-traded fund (NGE) has rallied 63% in the past year, but Chakrabortty is still finding bargains there, like Zenith Bank (ZENB.UK) and Guaranty Trust Bank(GRTB.UK). “Zenith and Guaranty have very strong franchises,” he says. “They managed very well through difficult times. Asset quality has remained rock-solid, and, as economic growth returns and companies start reinvesting in their businesses, that should help bank loan growth.”

One complicating factor is that the definition of “frontier” is not universal. There are 10 frontier mutual funds that make up this subset of Morningstar’s larger emerging markets category, and returns can vary dramatically. In the past year, the $769 million Morgan Stanley Institutional Frontier Markets Portfolio (MFMPX) returned the least, 22%, while the $73 million T. Rowe Price Institutional Frontier Markets Equity (PRFFX) topped the category at 36%.

Manager Andrew Brudenell of the $95 million Ashmore Emerging Markets Frontier Equity (EFEAX), for instance, has a 22% weighting in Argentina, which powered the fund’s 33% return in the past year. The country’s stocks rocketed 74% in 2017 as President Mauricio Macri implemented business-friendly reforms. The recovery means that Argentina will probably be upgraded from frontier market to emerging market at MSCI’s and other benchmarks soon. “We’re trying to give our clients something they don’t own,” Brudenell says. “Your standard large-cap emerging markets product doesn’t give you the whole picture.”

Another reason that it pays to look under the hood.

Investing’s New Frontier: Nigeria, Egypt, Kenya


Source : Barron's

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