Risk and Opportunities in Frontier Markets

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Frontier markets are not for the faint of heart. The orderly lanes of a metropolitan city in Europe or North America are a far cry from the roads of a frontier market or emerging market economy. From navigating roads to investing in assets, the levels of uncertainty and volatility of outcomes in many of these markets are much higher.

But there are investors who think that the chaos inherent in these economies can be a source of significant returns. They look to profit from the economic growth that comes from molding disorder into order.

At the 71st CFA Institute Annual Conference in Hong Kong, Andreas Vogelsanger, CFA, and Joyce Ng participated in a panel discussion on “Risk and Opportunities in Frontier Markets Investing,” providing an insightful discussion on the importance of this type of investing.

Frontier markets are often characterized by low per capita incomes, favorable demographics, and a population profile that is well poised to climb the literacy and prosperity curves. Vietnam — the main focus of the panel discussion — has been a favorite investment destination since 2012.

For the last several years, Vietnam’s economic growth profile has mimicked the robust growth pattern of China, her northern neighbor. In 1980, China was not in the world’s top 10 countries measured by GDP, but it is now the world’s second largest economy. Will Vietnam follow in China’s footsteps? The presenters felt it was possible for Vietnam to outpace Australia’s US$1.2 trillion economy by 2050.

All investment vehicles, especially those involving frontier markets, face challenges. The Vietnamese stock market has been steadily recovering from its first stock market bubble, which burst in 2007. But some Asian markets, including Thailand and Japan, have been off their highs for two decades. These markets have yet to claw their way back to pre-bubble levels.

All financial markets are vulnerable to bubbles and busts. Large scale swings are often driven by perverse interests and a wide variety of incurable behavioral biases. Lower levels of informational efficiency in frontier markets is likely to introduce herding and other irrational behavior, making these markets more susceptible to extreme shifts.

Frontier markets have many additional burdens to deal with — one of the largest performance drags stems from their lack of strong institutions. It is no surprise that many of these markets are high on the Corruption Perceptions Index.

The panel also discussed private equity investments, which can produce outsize returns. On the other hand, these are high-risk investments. Private companies are not obligated to disclose as much as listed companies; investing in them requires expertise and experience.

Alternative asset classes tend to have lower correlations with traditional asset classes, which makes risk diversification a compelling reason to consider frontier markets and alternative investments. There is another point in their favor: According to Daniel Kahneman, those experienced in investing in private markets may have a better sense of intuition for them, and therefore, a higher chance of success.

Experience the 71st CFA Institute Annual Conference online through Conference Live. It’s an insider’s perspective with live broadcasts and recorded video archives of select sessions, exclusive speaker interviews, discussions of current topics, and updates on CFA Institute initiatives.


All posts are the opinion of the author. As such, they should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute or the author’s employer.

Image credit: Simon Gurney / CC-BY-SA-3.0

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