Cheer up Morocco, frontier markets are hot
Morocco fears its stock market is on the verge of being re-classified as a frontier market when index provider MSCI announces its annual rejig of equity indices this month.
Maybe it should pray for relegation instead. A report at the end of last week by Citi notes the boom in frontier market equities — they have risen 15 percent since the start of this year, a stark contrast to their better known, more liquid emerging market cousins which have fallen around 5 percent so far this year. In fact the performance of the frontiers — comprising less liquid, smaller markets from Kenya to Kazakhstan — has been more akin to the U.S. or Japanese equity markets which have earned investors double-digit returns this year.
Citi notes that the seven best returning markets in the world this year are all in the so-called frontiers, while the nine worst laggards are from the emerging world. Check out the graphic below. It shows how markets such as Kenya, Bulgaria and the United Arab Emirates have rallied more than 40 percent this year.
Many will find the divergence unsurprising. These indices are more likely to comprise smaller consumer stocks and banks — in demand at the moment as profits fall at the big industrial and commodity giants that dominate emerging indices. In most of these markets and especially in sub-Saharan Africa, penetration of services such as bank credit and mobile telephony is far lower than in emerging markets and companies usually have less competition to contend with. What’s more, frontier stocks, for the most part, are cheaper than their emerging peers — Citi puts the average discount at the moment at 22 percent.
In other words, if you want a punt on the emerging market consumer, go to the frontiers.
Many are doing exactly that. Citi reckons that assets under management or AUM of frontier funds has risen to $17 billion, over a third higher than the middle of last year. U.S. Templeton’s frontier fund has grown so much that it is closing the fund to new investors. That sounds like chicken feed — inflows to emerging market equity funds just this year stand at over $25 billion. But remember, these markets are for the most part tiny. The market cap of Nairobi for instance is less than $20 billion — compare that to $600 billion in Russia. In flow terms, frontier market funds have received inflows equivalent to almost a fifth of their assets, well in excess of the 8 percent of AUM for EM funds, Citi says, citing EPFR data.
Citi outlines other reasons it likes the frontiers. The increased flow is fixing the liquidity problem that deters many investors, it says pointing out that trade volumes on Nigeria’s stock market now regularly exceeds $150 million a day while it had trouble breaking $50 million two years back, while the change is more pronounced in the Middle East — Dubai is on the cusp of trading a respectable $1 billion a day.
In one respect though, Morocco has been behaving more like an emerging market. Its stock market is down 5 percent this year to around six-year lows. It remains to be seen if membership of the frontier index could boost its fortunes.