Contributions by : Kunal Sabnis, CFA and Rajni Dhameja
IAIP, Mumbai organized event on “Investment Opportunities in Asian Frontier Markets – Case Studies of Bangladesh & Sri Lanka” on Sep 27, 2013. The event was inaugurated by Sonia Gandhi, CFA by mentioning the facts about frontier markets which have been witnessing investment flows from across the globe. She also introduced the speaker Ramesh Mantri, CFA who walked us through various details about the frontier markets with particular focus on Bangladesh & Sri Lanka.
Excerpts of the presentation are as follows.
Out of 20 fastest growing countries 19 are frontier markets and 9 of which are in Asia indicating a gradual shift in Power from West to the East. Frontier markets typically have a higher share in world population but lower share in world GDP and are driven by internal demand & consumption story. They have lower market capitalization and a lower correlation with the developed markets aiding diversification for the investors.
Frontier markets have few things in common:
- Undeveloped financial markets
- Weak enforcement laws
- High levels of Illiteracy
- Lack of overall development
- High dependence on a single factor for GDP growth
- Gets global media coverage for infamous reasons
Frontier markets gain the most from demographic dividend. Equity returns are the highest for countries with maximum population in the age group of 35-45. European Union and Japan have a problem of ageing population; Asia holds the opportunity going forward. China, Asean and Gulf countries are expected to do better. US will have better risk adjusted returns but lower on absolute basis due to low interest rates. Historical inference is that extremely high & extremely low GDP growth rate has negative correlation with equity returns. The phenomenon of asset class returns indicates that every decade witnesses a new star performer and the winner of one decade doesn’t repeat in the following decade. While analyzing stocks in frontier markets bottom-up approach is used with most important parameters being Dividend Yield and Price to earnings/Price to book value (for financial stocks). The liquidity in these markets is very shallow hence institutional investors have to invest for longer time frame and rely on block trades.
Bangladesh is characterized by heavy population which is relatively less educated but focuses effectively on manufacturing. Government of Bangladesh gives special grants to Industry which has seen it become the largest textile manufacturer in the World. Demographic dividend and favourable labour cost as compared to China has transformed Bangladesh into an Apparel Powerhouse. Focus on manufacturing sector has been so beneficial for Bangladesh that it has a current account surplus and a high savings rate. Moreover Bangladesh has zero correlation with the world markets hence an ideal candidate for diversification for global investors. It has been ranked 25th in the world for Investor protection list and has a low Debt to GDP ratio.
Sri Lanka on the other hand has much lesser population with high literacy rate hence more reliant on Service industry. It mainly benefits from Peace Dividend post the civil war which went on for almost three decades. Its location is of strategic importance since it is situated on multiple transport routes and is a gateway to Southeast Asia. China has already invested $2 bn in Sri Lankan ports. The valuation of Real estate assets as well as Equities is still cheap offering immense value for long-term investors. Sri Lanka is a great tourist destination and offers varied experiences of Beaches, Wild life and Scenic beauty.
Both Sri Lanka and Bangladesh have positive real interest rates considering the CPI along with high growth in GDP which is totally unlike India. As these countries are rising from a lower base, domestic consumption related sectors like FMCG, Financial Services are expected to do well going forward. Sectors which are highly sensitive to government policies should be avoided since frontier markets tend to be politically unstable. World renowned MNCs which operate in these markets provide good investment opportunity since they trade very cheap in these countries as compared to others yet garner a faster growth. Management quality is of high importance since these investments are subject country specific risk. It is possible to get attractive returns in these markets with well-researched and calculated risks since most foreign as well as domestic investors are absent.
Then floor was left open for Q&A where the audience participated enthusiastically. The session was well received by all the participants.
CFA Institute’s Research Foundation has a publication on Frontier Market titled “Frontier Market Equity Investing: Finding the Winners of the Future” by Lawrence Speidell, CFA Frontier Market Asset Management . You could find the same at http://www.cfapubs.org/doi/pdf/10.2470/rf.v2011.n2.1