by Charles Sizemore | January 31, 2014 12:00 pm
On the outskirts of Ulaanbaatar, a nomadic family of herders is sitting outside their ger (the family tent commonly called a “yurt” in the West) watching Bloomberg TV… on a high-definition flat-screen television powered by a mobile solar generator and a satellite dish.
Only in Mongolia.
As Harris Kupperman, President of Miami-based hedge fund Praetorian Capital, steps inside the ger, the head of the house — smartphone in hand — asks: “Mr. Kupperman, you’re a money man. I’ve been watching the news about the crisis in the eurozone. How do you see this affecting the price of my cashmere?”
This particular blend of sophistication and simplicity is a mixture you will find — again — only in Mongolia.
Though it is far off the beaten path of most investors, Mongolia has quietly emerged as the fastest-growing economy in the world. In 2014, the Mongolian economy is expected to grow by a blistering 15.3%, and the IMF expects it to be the fastest-growing economy in the world over the next decade.
If you haven’t heard about the Mongolian growth story, there is a good reason. Despite its recent growth, Mongolia’s GDP is only around $11 billion. To put that in perspective, the economy of West Virginia is roughly six times as large. And Mongolia, despite its enormous size (more than double the size of Texas), has a population of only about 2.8 million people — roughly 30% of whom still live a nomadic or seminomadic lifestyle.
Yet a surprising 70% of Mongolian nomads have access to electricity and communications. And given Mongolia’s richness in natural resources — Marc Faber called Mongolia the “Saudi Arabia of Asia” — and its strategic location next to China, the worlds’ most rapacious consumer of natural resources, there is every reason to believe that the boom is sustainable.
Kupperman, who in addition to his responsibilities at Praetorian Capital also serves as Chairman and CEO of Mongolia Growth Group (MNGGF), was gracious enough to sit down with me for a Skype interview from his office in Ulaanbaatar. Here are some of the highlights:
Q: Thanks for taking the time, Harris. I want to start with the most obvious question: Why Mongolia?
A: One word: growth. In the developed markets, we’re lucky to get 1%-2% GDP growth in a year. In Mongolia, we see that in a month. But unlike some of the other high-growth markets out there — think Iraq or Libya — Mongolia is actually safe and politically stable, and the people are very welcoming to foreigners. There is roughly $2 trillion of mining commodities in the ground, and this could easily be a $100-billion economy by 2025. We’re simply looking to put our capital in front of that growth.
Q: As far back as 2003, when he published Adventure Capitalist, Jim Rogers spoke of “digital Mongolia” and noted that Mongolia was leapfrogging legacy technology — things like power and phone lines — and jumping directly into the digital era. What has your experience been?
A: I find that the internet works when the electricity works. [Laughs.] No, in all seriousness, I rarely have problems here. The internet speeds are generally a lot faster than what I get in Miami … and this in a country with few paved roads. I’ve been very impressed by how quickly Mongolians adapt to new technology. Remember, this was a very simple pastoral economy just a few years ago, but today herders have access to real-time market data via smartphones. In the past, a herder had very little negotiating power with the middlemen that bought their cashmere and sold it on international markets. The trader had a big informational advantage, and the herder generally had to take whatever price was offered. But today, the herders have access to the same information as the traders.
Q: What about China? Are you concerned about China’s slowing growth and what that might mean for Mongolia?
A: I’m not that concerned. Sure, Chinese growth is slowing. But it’s still growing at a phenomenal rate for an economy of its size, and, frankly, the Chinese government can’t afford to let the growth story fall apart. The Chinese boom will last longer than just about anyone today thinks possible. There will be ups and downs, of course, and the double-digit growth is probably gone forever. But I think the broader China growth story still has another several decades before it really hits a wall.
Q: You’ve convinced me on the Mongolia growth story. Now, how to you plan to profit from it? Mongolian equities?
A: Well, you could buy Mongolian equities. But remember, this is a frontier market in the very early stages of development, and securities regulation is still very new here. And liquidity isn’t exactly what most American investors would be accustomed to. Believe it or not, real estate is actually a lot more liquid than equities here. The trading volume in Mongolian stocks can be as small as $50,000 to $100,000 per day. And that is not for a particular Mongolian stock, that is for the entire Mongolian stock market. In our view, real estate is the best and most conservative way to play the Mongolia growth story.
Q: And how does Mongolia Growth Group invest in Mongolian real estate? What does your portfolio look like?
A: Our primary strategy is to buy retail properties located along the capital’s main avenue. As Mongolia develops, its economy will get more sophisticated, and rents will inevitably rise. We’re looking to profit from that transformation of a store front from a noodle shop to an Armani store, if you will. We also invest in office properties. But we find that retail gives us the best prospects for large rent increases. And that is the real investment story here.
Real estate investors have a nasty tendency to get overleveraged. That’s fine — so long as property prices are rising. But whenever there is a setback, they find themselves in the uncomfortable position of having to sell assets at distressed prices. And perhaps worse, their capital dries up at precisely the time that bargains abound and you would want to put new cash to work.
Having lived in Miami through the 2008-2009 washout, Kupperman has seen firsthand how devastating it can be to be overleveraged in real estate. So, unlike virtually all property investors, he has kept his Mongolia Growth Group debt free. And in fact, as of the company’s latest filings, it has about 15% of its book value in cold, hard cash — ready to pounce if the opportunity comes around.
Kupperman also “eats his own cooking,” which is something I like to see. He personally owns about 15% of the company, and management collectively owns about a third. And like Kinder Morgan’s (KMI) Richard Kinder, Kupperman does not take a salary for his work. He only makes money if his investors do — via long-term capital appreciation.
Mongolia Growth Group is too small and thinly traded for me to officially recommend, as its market cap is only about $60 million. It’s also something of a falling knife at the moment, down more than 60% from its 52-week highs.
Still, for the speculative part of your portfolio — that part of the portfolio where you invest in your off-the-wall ideas with the biggest profit potential — I would say that Mongolia Growth Group deserves serious consideration.
Just remember, if you do buy, use a limit order. And given that any investment in Mongolia should be considered a long-term speculation, don’t invest any funds you couldn’t afford to do without for the next five to ten years or more.
And finally, don’t try to call the exact bottom here. Wait for the current bout of frontier market volatility to pass, and only buy the shares once they appear to have resumed an uptrend.
As of this writing, Charles Sizemore was long KMI.
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