Why It’s Worth Investing In Frontier Markets

Worldwide investors are always looking for unique investment opportunities. Nowadays, a small investor can easily invest in almost all financial stock markets in the world. Since the inception of the Exchange Traded Funds (ETFs), investing in foreign financial markets has never been easier.

A frontier market is defined as a market which is too small to be considered an emerging market but is more developed than the least developing countries. Given that this is a relative definition, the list of countries which can be defined as frontier markets differs every year. Currently, countries like Argentina, Romania, Croatia, Jordan, Bangladesh and Vietnam, are on this list.

Opportunities

Frontier markets are rapidly growing and industrialising. It is expected that most of the frontier markets will eventually be promoted to emerging markets within a few decades. This promotion will be associated with increasing stock markets. Since the growth rate of the world economy slowly starts to recover, the frontier markets are able to benefit directly from this. Besides, most of the frontier markets are now relatively stable in terms of politics and other macroeconomic factors.

Stability is extremely important for the countries’ economies. A third benefit which investing in frontier markets enables is the diversification benefit. Due to the low correlation with stock markets of developed countries, an addition of ETFs or shares from frontier markets to one’s portfolio can provide significant diversification benefits which, eventually decreases the total risk. Amongst the frontier markets, the correlation is often very low too.

7.1% was the growth of Bangladesh in the 2016 fiscal year

This provides investors with an even bigger diversification benefit. However, one has to keep in your mind that some countries, like Nigeria, are strongly dependent on oil prices. In this case, the effect of the diversification benefit will be affected by the composition of the portfolio.

In the end, investing in frontier markets provides opportunities for most of the investors. A good example of such a promising nation is Bangladesh. Bangladesh is known for its garment industry. An increasing world economy is associated with an increase in demand for garments. The country is extremely efficient and therefore creates high barriers for other countries to enter this industry.

Moreover, the demand for cheap clothes is increasing. Being so efficient enables Bangladesh to produce textiles for extremely low prices. As a result, according to the International Trade Centre, Bangladesh is one of the most important exporting countries for the garment industry. According to the IMF, the economy of Bangladesh grew 7.1% in the 2016 fiscal year and is, therefore, the second fastest growing economy in the world.

“Investing in riskless assets is too boring for a modern investor anyway.”

Risks

On the other hand, it is important to keep in mind that investing in frontier markets is risky. As mentioned before, (political) stability is very important. Corruption, authoritarian governments, political failures, diseases and wars can impact the stability that will be devastating for a country’s economy. Problems with financial stock markets accessibility and low liquidity are some other risks which investors have to bear.

Especially for small investors, the gathering of information about the markets is a big challenge, and research coverage by analysts is even more limited. In the end, as an investor, one also bears some country-specific risk. For example, Bangladesh is extremely vulnerable to natural disasters like earthquakes, floods, tornadoes and cyclones. Such a natural disaster is likely to have a huge impact on the country’s economy and development.

Conclusion

Most of the frontier markets are expected to be promoted to the category of emerging markets within two decades. This change will definitely positively affect their stock markets. Especially when investing for the long term, ETFs are definitely worth considering.

Due to low liquidity and accessibility, buying shares is more difficult and riskier in comparison to ETFs. As a result of the diversification benefit, such an asset is a good addition to an investor’s portfolio. Although the risk is higher, when one is patient, the return will probably be worth it. And investing in riskless assets is too boring for a modern investor anyway.