Asset managers interested in immature frontier markets

Asset managers are eyeing investments in Iraq and other countries recovering from political instability, as the rise of markets such as Brazil and India make the exotic more acceptable.

Since the financial crisis, investors have sought to compensate for languid growth in the developed world by allocating more money to emerging markets, including Brazil, Russia, India and China, the BRIC group.

But managers are now turning to more exotic countries, categorised as immature frontier markets, rather than emerging markets, but which show features promising fast growth, such as resource wealth or young populations, including Iraq, Bangladesh and Egypt.

‘We are interested in Iraq. The problem is that they do not have a set up to allow investors to come in,’ said Mark Mobius, executive chairman of Templeton Emerging Markets Group on the sidelines of the Fund Forum 2011 conference in Monaco. Mobius added he is looking for opportunities in Bangladesh.

A report penned by Citi and published this year estimated that, over the next five years, Mongolia and Iraq will grow at double digit rates, both driven by resource extraction and the latter by post war reconstruction.

This year, Goldman Sachs launched its Next 11 fund investing in Pakistan as well as more stable Turkey and other economies identified as growth engines by Jim O'Neill, who coined the BRIC acronym.
HSBC has launched a fund to invest in a six strong group of countries it dubbed Civets, which includes Colombia, a country emerging from years of political and criminal violence. Standard Bank, meanwhile, has said it was an ‘ardent fan’ of Zimbabwe.

‘In the long term, what we see in these countries is quite promising. Some may be a bit shaky now but maybe it is exactly the point in time to look at it and build position,’ said Rudolf Aperbrink, EMEA chief executive officer at HSBC Global Asset Management.

Political instability is not a reason to overlook these countries, according to Allan Conway, head of emerging markets at UK fund manager Schroders, who oversees $27 billion in assets under management.
‘We have to be careful about assuming that political risk per se means you shouldn't invest,’ said Conway.

While investors appear more accepting of some political risk, corporate governance remains a widespread concern. Corruption is ‘still very much an issue and an investment issue’ in emerging markets but ‘it doesn't feel like markets are paying too much attention,’ said David Gait, manager of the First State Asia Pacific Sustainability fund.

An Ernst & Young report released last month found more than 80% of respondents based in emerging markets saw bribery and corruption as widespread where they were based.

Corruption scandals in India sent mutual funds specialising in the country to the bottom of performance tables this year, demonstrating emerging markets still have a tendency towards volatility.

Russia is the ‘cheapest emerging market in the world’, partly due to governance concerns, noted Schroder's Conway. ‘You have to make sure the degree of corruption does not jeopardise the investment you are making but also (that) it is priced in the market,’ Conway added.