By Daniel Archibald | CFA
Whether it be fashion, music, sport stars or investments, there is always an air of excitement around the "next big thing". And when it comes to making money, getting in early on promising prospects is often the steepest slope to generous gains. However, trying to strike it rich from the new and untested can often lead to large discoveries of fool's gold rather than precious deposits. Thus, an appetite for risk is generally required for those looking to invest in frontier markets.
What are Frontier Markets
From an investment point of view, the world is split into 3 main groups - developed markets, emerging markets and frontier markets. The latter, also known as "pre-emerging" markets, comprises the smaller end of the developing world and includes the equity and bond markets of countries such as Vietnam, Argentina and Kazakhstan. It is important to note, that this group does not include "least developed" (or "third world") countries, where lack of investment opportunities and financial infrastructures restrict most investors from gaining access. It is also worth noting that there are a number of countries that aren't necessarily in any bucket due to size or investment restrictions (e.g. Nicaragua, Saudi Arabia).
The key characteristics of frontier markets may include:
- Underdeveloped - these countries would not fall into the least developed category, but probably have a lower level of financial infrastructure or rule-of-law than more progressed, emerging market economies
- Small - too small to be emerging markets, which makes it harder for many investors to gain adequate access
- Restrictive - these countries might have some investment restrictions
Overall, these smaller economies would have functioning capital markets, which would allow some access to foreign investors. Importantly, there is no official grouping of countries into the different market buckets, with leading investment and research house deciding internally which countries belong in which market classification.
Americas
Many of the larger countries of the Caribbean and Central and South America are included in this group of global investable markets. Argentina would be the most likely to "graduate" to that of an emerging market, but its record with foreign investors highlights the risks taken when investing in less secure regimes.
May include - Argentina, Ecuador, Jamaica, Trinidad & Tobago, Panama.
Europe
This list is made up of Eastern European states, with most of them being ex-Soviet nations.
May include - Bulgaria, Croatia, Estonia, Kazakhstan, Lithuania, Romania, Serbia, Slovenia, Ukraine.
Middle East and Africa
The plight of the oil states have also highlighted another feature of many frontier market countries - i.e. lack of economic diversity.
May include - Bahrain, Botswana, Ghana, Ivory Coast, Jordan, Kenya, Kuwait, Lebanon, Nigeria, Oman, Qatar, Tunisia, UAE.
Asia/Pacific
After decades of internal struggles and malinvestment, the rise of Asia could very well make some of these countries, the "next big thing".
May include - Bangladesh, Pakistan, Sri Lanka, Vietnam.