Investors who allocate a portion of their portfolios to frontier market equities may achieve greater return potential over the long term than if they invest solely in developed markets, says Dafydd Lewis, investment analyst at Lloyd George Management (LGM), part of BMO Global Asset Management.
Frontier markets consist of countries with market-oriented economies in the early stages of economic development, reflecting many of the same characteristics of the original global emerging markets — such as China and India — some 20 years ago.
According to Lewis, frontier markets offer strong growth prospects, driven by favorable demographics and the increasing disposable income of local consumers, while remaining relatively uncorrelated to both developed and emerging markets in the long term. This, makes them potentially attractive from two perspectives: enhanced returns and potentially lower risk levels through diversification in an overall portfolio.
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“Frontier market equities have extremely attractive valuations and offer higher dividend yields than other major markets,” Lewis explains. “Meanwhile, less analyst coverage means companies are often ‘under researched.’ This inefficiency creates considerable opportunities for analysts willing to roll up their sleeves and do their own bottom-up research which, in turn, provides…investors with significant untapped investing opportunities.”
Potential investors should do their due diligence by researching the risks of frontier market equities. Specifically:
- Political climate can range from mixed to turbulent. By diversifying across sectors, countries and regions, investors may mitigate some of this risk.
- Fraud is an ongoing concern but can be best managed through company visits and by focusing on companies that are audited regularly by internationally recognized firms.
- Liquidity considerations also need to be taken into account, as it can take longer to invest in and divest from frontier market companies.