Warren Buffett famously has said that investors need to “be fearful when others are greedy, and be greedy when others are fearful,” knowing that they get too excited when prices are rising fast and too scared when they have fallen a lot.
Click to Enlarge By that yardstick, some frontier markets — or the smaller illiquid brethren to emerging markets that are much more difficult to invest in — are prime bottom-fishing candidates. Investors have (almost) abandoned illiquid markets as measured by the MSCI Frontier Markets Index, as their 2008 experience showed that when everyone tries to sell at the same time, it is very difficult to do so.
The bombed-out stock markets of frontier emerging economies could be interesting for buy-and-hold investors with a five-year horizon, as most have positive demographics, grow fast from small GDP-per-capita bases and have many years — decades in some cases — before they get to developed-world standards.
Argentina is the most odd frontier market in the MSCI Frontier Markets index, as it was demoted in 2009 thanks to a long history of hostile policies toward foreign investors, despite the developed nature of the Argentine economy.
There are some intriguing investment opportunities for long-term investors in the table below, but what good are they if a U.S.-based investor cannot buy them? So, I decided to take a look what investment vehicles are available at present.
Because of its demotion from emerging-market status, Argentina has the highest number of ADRs of any frontier market. In fact, if it were not for Argentina, the term “frontier market ADR” would have been an oxymoron — none are available for any of the other frontier markets. However, some interesting ETFs invest directly those frontier markets.
Continued innovative fund launches by Market Vectors have made other ETF sponsors look quite unimaginative. I personally had a conversation with a leveraged ETF marketing executive who could not comprehend why the Market Vectors Brazil Small-Cap ETF (NYSE:BRF) was so popular. Given that this investment professional’s intention was just to find something to leverage at 2X or 3X, it was not all that surprising to find a lack of understanding.
“Because it is a way to invest in the domestic-demand driven economy in Brazil, past the energy and mining names that dominate the large-cap benchmark index? And because there are no ADRs of the companies in the ETF, which make it a unique investment vehicle?” I tried to explain in the simplest possible terms.
I am not sure the leveraged ETF marketing executive got me.
The same reasoning that applies to the BRF applies to Market Vectors Vietnam ETF (NYSE:VNM). About 70% of the shares in the ETF have direct Vietnam listings, while the rest are for companies in other jurisdictions that have substantial operations in the country (all ETF members have to have at least 50% or revenues derived from the country). The ETF does track the major benchmark index well, accounting for the managed currency float that has been devalued from the 17,000 dong-to-USD ratio to the present 20,800 rate.
Almost half of the ETF is in local financials, while another 22.5% is invested in local energy names. With an average weighted market cap of $4.17 billion, the ETF covers all major publicly listed companies. Vietnam is where China was in privatization and deregulation 20 years ago, so many state-owned enterprises are not listed. Still, these are companies that offer great long-term exposure to one of Asia’s most promising economies with a population of 91 million and median age of 27.8 years.
There are no other single-country frontier market ETFs, but there are two regional ones: the Market Vectors Africa (NYSE:AFK) and Market Vectors Gulf States (NYSE:MES).
The Market Vectors Africa ETF follows the performance of the Dow Jones Africa Titans 50 Index, which includes publicly traded companies that are headquartered in Africa or that generate the majority of their revenues in Africa. As such, the index gravitates toward large(r) caps listed in South Africa (25.5%) and in developed markets that have large African exposure (25.3%). South Africa is a kosher emerging market much more advanced than the frontier kind, but its corporations have long dominated the continent, especially the sub-Saharan part.
There are very few names in the ETF that are from actual frontier markets in Africa, mainly because of the less-developed nature of local stock markets. Still, the AFK is a way to play the resurgence of the least-developed frontier markets on the globe, which also have the best demographic profile; positive demographics coupled with the right market reforms typically result in a long-term acceleration of economic growth.
The Market Vectors Gulf States ETF is similar to AFK in the sense that it offers exposure to frontier markets in Asia Minor that have no available ADRs, but it also is different, as in this case the majority of holdings come directly from the local exchanges: Kuwait (36.8%), Qatar (30.4%) and UAE (22.9%), with the rest from Bahrain, Oman and other smaller markets. About two-thirds of the holdings are in financials and 14.7% in telecom stocks. You would expect large energy exposure, but such companies are not publicly traded there — this is why the sector only accounts for 6%.
For all their shortcomings, both AFK and MES target their regions well, with decent dividend yields to boot — 3% and 3.5%, respectively.
The above three frontier market ETFs might not be leveraged ways to find direct exposure to this adventurous asset class, but they do offer investors credible buy-and-hold vehicles with long-term potential.
Ivan Martchev is a research consultant with institutional money manager Navellier & Associates. The opinions expressed are his own. This is neither a recommendation to buy nor sell the stocks mentioned in this article. Investors should consult their financial adviser prior to making any decision to buy or sell the aforementioned securities.