Sentiment is particularly gloomy for frontier markets today. The silver lining is that this gives a solid hunting ground for those brave enough to look through the emotion and seek attractive investments. We believe the inflection point in our target markets is very close and 2016 may turn to be (surprisingly) a good year for opportunities within the frontier markets based on a combination of structural reforms, increased liquidity, infrastructure development and trade partnerships.
2015 was fraught with challenges for the frontier markets with headwinds emanating from plunging commodity prices, Chinese growth concerns which led to a historic Yuan devaluation and the uncertainty surrounding the US Fed rate hike. The combination of these factors led to the investable universe declining ~20% for the year.
The oil price plunge had a marked effect in the MENA space and on Nigeria and Colombia. Soft commodity prices also sparked currency weakness across our frontier markets with the exception of Asia (Philippines, Pakistan, Bangladesh and Vietnam). Kenya’s performance in 2015 disappointed as cheaper oil imports failed to set off the impact of soft prices on its tea and coffee exports.
Frantic talk about the Fed ‘hike’ continues to bemuse us. In fact, we see further tightening to be positive for EM Frontier equities and not the opposite as it will only mean that the global economy is stronger and that we are re-building monetary policy ammunition for the next cycle.
Pakistan remains of one of our favoured investment destinations as implementation of the China-Pak Economic Corridor infrastructure & energy projects have the potential to drastically improve the economic landscape of the country. Add to that the consumer demand theme of a rising middle class and there lie a number of opportunities to be explored in the infrastructure, consumer and healthcare space. We also have fiscal & energy sector reforms under the IMF program continuing to play out. Pakistan’s credit ratings have been upgraded by Moody’s and S&P. A US$46bn Chinese-backed infrastructure investment program has been announced and there is the potential return to MSCI Emerging Market status.
Bangladesh is also exciting as its strong fiscal fundamentals (balance of payment surplus, stable currency) and population dynamics (high geographic concentration, rising GDP per capita) offer lucrative investment avenues in healthcare and consumer.
Vietnam, which was the best performer in the EM Frontier space in 2015, still has a number of positive developments underway. In addition to its strong economic growth outlook, market liquidity is likely to improve as the state investment arm starts divestment of key public equity holdings such as Vinamilk. Furthermore, Vietnam’s inclusion in the Trans-Pacific Partnership which seeks to remove trade barriers between 12 countries including the US, Canada, Japan and Australia amongst others would provide a significant boost to Vietnamese exports given China’s exclusion from this pact.
In Africa, we are seeing a healthy improvement in the Kenya’s macro fundamentals as improved liquidity along with rebounding tourism revenues have brought the economy back on track. Argentina is also on our radar as we are closely monitoring the implementation of President Macri’s proposed policies for an economic turnaround. While leadership change is a positive, it is the execution of the correct policies which will make the difference.
From a valuation perspective, several MENA business (especially in the UAE and Saudi) have become a lot more attractive as tailwinds to earnings continue to be strong despite the challenging environment brought about by lower energy prices.
Hedi ben Mlouka is CIO of frontier markets at Duet Asset Management