The title probably perked the ears of all my fellow Star Trek and Sci-Fi crowd. Sorry, but all those references end here– well to some degree…
When developing a strong investment portfolio the idea is to diversify your portfolio across various asset classes that not only give you broad exposure across various investable markets but, ideally, do it in a way that they back each other up. What I mean by that is when one asset class is not performing well, it is being helped by other asset classes that are not being affected by the same factors, essentially having a lower correlation to each other. It is rare that you have an anomaly like 2008 when all asset classes moved hand in hand with each other. The goal is to have assets with varying degrees of this correlation. This is one of those reasons why you add fixed income to your portfolio. It is also one of the many reasons why we invest internationally.
Internationally we have the ability to invest in other Developed Nations like the United States, which would include the U.K., Japan, and many of the Western European countries. About 20 years ago it was becoming easier to invest in Emerging Markets, such as Mexico, Hong Kong, India, and more recently, China. At that time, these were considered higher risk investments for various reasons, but adding Emerging Markets to your portfolio lowered the amount of correlation in your portfolio and gave it greater diversification. Now-a-days, Emerging Markets is a typical part of a portfolio.
So getting back to the title of this blog, what is the “New Frontier”? Frontier Markets are those nations in the “frontier” of development and in the stages just blow Emerging Markets. These would be countries such as Argentina, Jamaica, Kenya, Ukraine, and Vietnam to name a few. There really isn’t anything new about them, except now more investment vehicles exist to allow the average investor to invest in these markets.
What is so attractive about investing in Frontier Markets(aside from golf course bragging rights) is that no two Frontier Market countries are alike. They are in that New Frontier of developing their economies and stabilizing their political systems. Their growth and development comes internally with little dependence on countries outside of their local region. Frontier economies typically have low levels of government debt, and manageable fiscal deficits. When you invest in these countries, you are investing in the companies that are aiding in the growth and development of these countries, such as financial institutions, companies developing communication systems, infrastructure or providing consumer goods to a growing class of people that now has the means to afford them. Unlike Emerging Markets, you are not investing heavily in commodities or natural resources from these countries.
All this independence is what makes this an attractive investment. Independence causes lower correlation between the various Frontier Markets, but more importantly, between Emerging and Developed countries. Since their economies have a low dependence on commodities and natural resources, they are not susceptible to the negative effects of a soft commodity market like Emerging Markets are. Due to lower liquidity and limited foreign investment, the volatility in Frontier Markets are about half that of Emerging markets. We will probably see this increase over time as Frontier Market investing becomes more popular and the means to invest in these countries becomes easier.
So how do you invest in this asset class? One way is to add Frontier Markets to the international portion of your portfolio strategies, as a complement to an Emerging Markets allocation. Due to all the little nuances of investing in Frontier Markets, it is imperative that you look for a Frontier Market fund with a manager that understands both the local markets and governments. There are two different mutual funds in this area that we like; Morgan Stanley’s Frontier Emerging Markets Strategy Fund (MFMPX/MFMIX) and Harding Loevner’s Frontier Emerging Markets Fund (HLMOX/HLFMX). Their management teams have an impressive “hands-on” approach. They don’t just sit in the comforts of their office and pick stocks, they get their hands dirty and travel to these countries to meet company management, observe the local economy, and learn about the government by meeting with officials. The team finds companies with quality management, that have upward price and earnings momentum and have that something special for future earnings growth potential.
Now please keep in mind, this type of investment is not appropriate for everyone and I would recommend that you consult your investment professional for advice on it and how it should be positioned in your portfolio. Or better yet, talk to someone here at Bloom Asset Management. Finding these “diamonds in the rough” is one of the many services we offer.