What defines a ‘frontier’ country and why do you think investors could benefit by overweighting EM frontier credits?
The emerging market (EM) world has evolved from being a large homogenous asset class into a much more complex one where we need new definitions to describe and define market segments. Core EM is often thought of as the BRICs1 and other large countries such as South Africa, Turkey, and Indonesia, whereas frontier is that next group of lower-rated countries looking to grow rapidly and join core EM on their development journey.
We define frontier as being smaller EM economies, with low savings bases and higher levels of poverty supplemented by high growth potential. Countries as diverse and far and wide as Pakistan, Nigeria, Egypt and Ecuador fall into the frontier bucket.
We’ve been active and overweight the bulk of frontier markets for much of the year on the basis of attractive valuations, portfolio diversification benefits and great total return opportunities via price appreciation and high-income return.
By and large most frontier markets have returned high double digit returns in the first half of the year, and we continue to believe that having exposure to this exciting area will enhance our return profile.
By and large most frontier markets have returned high double digit returns in the first half of the year, and we continue to believe that having exposure to this exciting area will enhance our return profile.
Why do the team like EM frontier issuers?
One of the main reasons why we as a team have focused on the frontier arena is we were drawn to the low cash prices on offer. Trading at the 40-50 cents on the $US cash price range at the turn of the year, these interesting stories and valuations instantly drew our attention.
During covid a few frontier countries defaulted on their debt obligations, while others flirted with default. These legacy stresses and the rapid increase in global interest rates caused the whole sector to re-price to stressed levels, and at one point last year over half the frontier universe was priced to default. After various country trips and through our analysis, we took the view that the risks were overestimated, and there was value to extract.
A number of these countries through IMF support, bi-lateral funding packages, and liability management exercises have now seen near-term stresses subside and, as a result, their bond prices have rallied significantly.
EMD, Q2 2024
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