To get ahead, you need a conservative strategy, scouring the world for both deep value and explosive growth.
When investors think of Asian emerging markets, oftentimes only China comes to mind. I’m not a China expert, but my research paints a picture of a China very much at odds with conventional wisdom.
Since 2000, China’s total debt has grown from $1 trillion to $27 trillion (up 2,600 percent) while its GDP has gone from $1 trillion to $9 trillion. Local government debt has jumped 67 percent since 2010. Meanwhile, real estate prices are up 700 percent since 2000 and industries from cement to aluminum are experiencing excess capacity of between 30% and 40%.
China’s historical advantage of having low manufacturing labor costs has evaporated. Mexico’s manufacturing wages are now lower. Bangladesh’s wages are about half that of China.
And China’s vaunted move to consumer-led economic growth is not going all that well, either. Unilever, the consumer multinational and maker of products such as Dove soap and Lipton tea, just reported that sales in China have plunged 20 plunged in two consecutive quarters.
While China struggles, Southeast Asia and frontier Asian countries are zooming ahead.
I call these markets “motorcycle markets” because they have many more motorcycles than cars on the road and some don’t even yet have a McDonald’s restaurant. While emerging markets have struggled, frontier emerging markets are surging. This has brought stocks in the MSCI Frontier Markets Index to a value of $119 billion.
These frontier markets offer investors a combination of great value, huge upside and unique challenges. As giants like China run into growing pains, higher costs and negative returns, frontier markets are up—propelled by a bit more political stability and easy access to modern communications, technology and capital. The simple smart phone has connected every citizen to the global economy as well as MIT’s free online education.
My case for you to leapfrog over emerging markets to the new frontier markets is simple and powerful. Frontier countries are far behind developed countries such as Japan and the U.S. and they’re playing catch up with countries such as Thailand, South Korea and China, but they are catching up fast. Imagine a chance to invest right now in the China of 1980, when its wages were at rock bottom levels and it exported in a year what it now does every day.
According to the Japan External Trade Organization (JETRO), the base salaries for workers in Guangzhou and Shenzhen are $395 and $295 per month, respectively. In Hanoi the figure is just $145. The Chinese middle-class is demanding higher wages, bringing an end to the era when companies could enter China and find an unlimited workforce willing to work for less than $100 per month. This is forcing companies like Microsoft to recalibrate, and Vietnam is waiting with open arms.
Youthful populations and the move of workers from rural areas to higher-income jobs in the cities are supercharging growth in these economies. About 65 percent of workers in frontier markets live in rural areas and their movement to urban centers is boosting earnings and productivity. The median age of many of these countries is at the demographic sweet spot of 25 years, compared to 35 years in China and South Korea, and 45 years in Germany and Japan.
This explains the optimism driving families to open their first bank account and purchase new houses, washing machines, refrigerators, cars and better food and medical care. This, in turn, explains why big companies from Japan, China, the U.S., Europe and South Korea are falling over themselves and each other to invest in frontier Asia.
It’s not just lucrative new consumer markets and rising tourism that’s driving this wave of capital, but also the need to access the region’s ample natural resources.
Evidence of this optimism and virtuous cycle of growth is everywhere. Since 2009 and the cooling of its civil war, Sri Lanka’s GDP has surged 40 percent and is now double that of India on a per capita basis. The 12th-largest shopping mall in the world is in Dhaka, Bangladesh, and a $20 billion energy investment by Exxon Mobil in Papua New Guinea has the potential to double the size of its economy.
Having a slice of frontier Asia in your portfolio actually reduces risk and volatility: These markets beat to their own drummer rather than just going up and down with world stock markets like most asset classes. Frontier Asian markets move with the MSCI world index only 35 percent of the time compared to 91 percent for the MSCI Emerging Market Index.
But like maneuvering a motorbike in and out of chaotic traffic, investing in these frontier markets requires experience and steady hands ,so choose your investments carefully.
For example, some of you might have already invested in a frontier market ETF with disappointing results. The Guggenheim frontier ETF (FRN) is down 5.8 percent over the last year due to 64 percent of its basket invested in Chile, Columbia, Egypt and Peru. The iShares Frontier ETF (FM) is down 11.8 percent over the last year with 26 percent exposure to Kuwait, 11.6 percent to Argentina and 11.4 percent to Nigeria. The problem is that these ETFs are slanted towards commodity countries rather than the export- and consumer-based frontier Asian countries.
The best way to capture these markets is to focus in on Asian frontier markets. One option is the Asia Frontier Fund (www.asiafrontiercapital.com).
I like this fund for several reasons.
First, 46 percent of its portfolio is in consumer stocks aiming to capture the young and rising consumer class.
Second, the fund’s flexible approach makes sense. It focuses on large-cap companies, but is also open to small caps and special opportunities. I agree with the fund’s 21 percent top weighting to Vietnam and the intelligent strategy of investing in each country’s strengths, such as tourism in Sri Lanka, mining in Mongolia, food companies in Vietnam, agriculture in Cambodia and textiles in Bangladesh.
Here’s the kicker: Many of the companies in the portfolio have significantly lower valuations compared to similar emerging and western companies, making them attractive acquisition targets.
Frontier Asian markets are on the move and advisors should get on board.
Carlton Delfeld is managing director of Chartwell Partners, an alternative asset advisory firm, and vice chairman of the Pacific Economic Club. He can be contacted at carl@blackthreadgroup.com.
