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  • © Copyright 2013. LVW Advisors, LLC. All Rights Reserved. 585-267-4900

    Lori Van Dusen, CIMA® Principal 585-267-4901

    Richard H. Van Kuren, CFA® Senior Partner 585-267-4903

    Jeffrey R. Wagner Partner 585-267-4904

    Thomas H. Hawks III Relationship Manager 585-267-4906

    Patrick G. Knapp Research Associate 585-267-4910

    LVW Advisors, LLC 67 Monroe Ave. Pittsford, NY 14534-1319 585-267-4900

    LVW Advisors is an independent Registered Investment Advisor based in Rochester (Pittsford), New York. Our team of

    experienced financial advisors provides customized investment management solutions and comprehensive wealth

    management plans for institutional investors, individuals and family offices. For more information, call us at

    585-267-4900 or visit

    The Case for Investing in the Frontier Markets August 2013 by Patrick Knapp and Vikram Mansharamani, LVW Senior Advisor

    Frontier Markets: As emerging markets continue to mature, frontier countries offer a compelling opportunity to gain exposure to uncorrelated growth.


    when the first comprehensive emerging markets index was created in 1988, it included only 10 countries which made up less than 1% of the world market.

    These countries represented the El Dorado of investments: the prospect of

    outsized returns complemented by significant diversification benefits. Fast

    forward 25 years to find that this same index now includes 21 countries and

    nearly 13% of the world market cap.i The two-decade evolution of emerging

    markets saw them shift from an opportunistic investment to a core holding in

    many portfolios with capital flows to match.

    Source: Institute of International Finance


  • © Copyright 2013. LVW Advisors, LLC. All Rights Reserved. 585-267-4900

    As the importance and popularity of the asset class has grown, its unique benefits have tempered. Correlations

    between emerging market countries and between the emerging markets and developed markets have steadily

    increased. Many emerging markets, although expanding much faster than the developed world, are also

    experiencing slower economic growth. We believe that emerging markets still represent an attractive asset

    class and should be part of a diversified equity allocation, but investors must adapt to their changing portfolio

    role by seeking out fresh investment opportunities with idiosyncratic characteristics and high growth

    prospects. We believe the logical asset class to turn to is collectively known as the frontier markets.

    In the discussion that follows, we will address four key questions:

    1. How is the frontier market universe defined?

    2. What is the case for investing in frontier markets?

    3. What are the risks of investing in frontier markets?

    4. What considerations are there for accessing the frontier market opportunity?

    How is the frontier universe defined?

    While there is no set or common definition of “frontier markets,” they are often thought of as the emerging, emerging markets. Several financial information providers (MSCI, Russell, S&P, FTSE, etc.) have developed

    indexes in an attempt to capture the commonalities of the universe. Frontier-dedicated managers often find

    such definitions and indexes poorly constructed and therefore very constraining. The working definition we

    find most useful is any country that has a stock exchange open to foreign investors and is weighted at less than

    1% in the MSCI Emerging Markets Index. In aggregate, such countries represent 20% of the world’s population,

    10% of global GDP, and approximately 2% of the world’s market capitalization.

  • © Copyright 2013. LVW Advisors, LLC. All Rights Reserved. 585-267-4900

    Frontier countries are an extremely diverse group in nearly every category. One of the most striking

    differences is the varying levels of economic advancement. For example, Qatar had the highest GDP per capita

    in the world as of 2012 at $103,900. Despite economic prosperity, countries like Qatar are considered frontier

    due to limits on foreign investment and liquidity concerns. In sharp contrast, Kenya ranked 198th in GDP per

    capita at $1,800ii and represents the group of frontier markets that are truly infant economies.

    What is the case for investing in frontier markets?

    The case for frontier markets centers around four characteristics:

    1) Greater economic growth potential than most other countries in the world 2) Misunderstood and inefficient capital markets with significant mispricing 3) Underdeveloped financial markets 4) Low(er) correlation with other asset classes than might be expected

    Growth Potential If history is any indicator of growth potential, emerging markets paint an intriguing picture of the growth trajectory of frontier markets from both a GDP and market capitalization standpoint. Frontier markets are at a similar level and are currently following a similar growth path to emerging markets in the late 1980s.

    ACWI is MSCI ACWI, a measure of world market cap

  • © Copyright 2013. LVW Advisors, LLC. All Rights Reserved. 585-267-4900

    In 2012, the only non-frontier country in the world to be included on the list of the 30 fastest-growing economies was China.iii This is expected to be a prolonged trend as indicated by many forecasters. Notice in the example to the left that six of the top 10 highest GDP growth countries over the 40-year period to 2050 are considered frontier. Notable absences include current emerging market powers China, Brazil, and Russia. Favorable demographic dynamics support forecasts that economic growth for frontier markets is likely to be strong for the foreseeable future. Countries that have a growing labor force relative to their non-working population experience significant economic tailwinds

    in per capita production, savings and investment rates, education rates, and positive societal shifts. This “demographic dividend” is accelerating and appears to be of longer duration among frontier countries than both their emerging markets and developed markets counterparts.

    Frontier countries have outpaced more developed countries in terms of gross capital formation over the 2000- 2009 time frame. When investing in capital such as infrastructure from a low base, the marginal return to GDP is much higher than developed countries as well, implying a positive outlook for economic growth in the future from such investments.

    Country/Region 2000 2005 2007 2009

    % Change


    United States 20.6% 19.9% 19.0% 14.2% -31.1%

    MSCI EAFE 22.5% 21.6% 22.8% 18.3% -18.7%

    Emerging Markets 22.2% 20.2% 22.9% 20.2% -9.0%

    Frontier Markets 19.6% 23.4% 24.6% 20.9% 6.6%

    China 35.1% 42.1% 41.7% 47.7% 35.9%

    India 24.2% 34.3% 37.7% 35.0% 44.6%

    Kenya 17.4% 16.9% 19.1% 20.9% 20.1%

    Bangladesh 23.0% 24.5% 24.5% 24.4% 6.1%

    Vietnam 29.6% 35.6% 43.1% 38.1% 28.7%

    Source: World Bank World Development Indicators

    Gross Capital Formation as a Percentage of GDP, 2000-2009

  • © Copyright 2013. LVW Advisors, LLC. All Rights Reserved. 585-267-4900

    Misunderstood and Inefficient Despite compelling growth characteristics, frontier markets remain off the radar screens of many global investors. This may stem from a misconception of frontier market risk relative to other asset classes. In reality, the volatility of frontier markets has been less than that of emerging markets over time.

    In a world of rising government debt burdens, frontier markets also have exceptional balance sheets. Debt to GDP levels are roughly half that of emerging markets and an eighth that of developed markets. Reserve levels are also significantly higher than developed markets.

    Source: IMF, World Bank

    There also appears to be a significant mismatch between investor perception of country-level risks and the reality of economic freedom. The Heritage Foundation publishes its Economic Freedom Index which ranks countries based on four categories: rule of law, limited government, regulatory efficiency, and open markets. Many frontier markets not only rank higher than emerging and developed markets, but have made huge advances in economic freedom in the last 18 years.

  • © Copyright 2013. LVW Advisors, LLC. All Rights Reserved. 585-267-4900

    Since 2009, frontier markets have not participated in the rally to nearly the same extent as other markets. They are still below their 2008 high by approximately 40% and trading at mid-2005 levels.

    1995 2013 % Change

    Hong Kong 88.6 8

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