In addition, frontier market countries are in a very early stage of growing per capita income. The advantage of being in an early stage is that it’s easy to catch up— frontier countries can basically adopt technology from more established markets and use it to accelerate their growth rates.
However, while there is a strong case for embracing the frontier, it’s important to recognize that markets in the so-called “pre-emerging” world are not without significant risks. Not only do you have the same risks you’d have with any developed and emerging market, but there also are a number of risks specific to the frontier.
There is a higher risk of political turmoil in frontier market countries, of course. Plus given that frontier markets are at relatively early stages of development, particularly with respect to their financial markets, they offer limited liquidity. The high concentration of financial stocks in frontier markets also means that these markets could be hurt if there is a global banking sector downturn. Finally, frontier markets also could suffer if investors regain enthusiasm for emerging markets.
To be sure, given frontier markets’ strong showing in recent years, many investors are wondering whether they should still consider investing in the frontier, especially considering the risks mentioned above.
My take: It’s certainly true that frontier markets have had a big run this year and they’re not without their risks, but their diversification benefits, lower volatility and growth potential warrant their inclusion as a long-term strategic holding in most portfolios, with one caveat. Given that the asset class is now closer to being fully valued, investors may want to use techniques like dollar cost averaging to slowly gain exposure to frontier stocks.
Sources: BlackRock, Bloomberg
Russ Koesterich, CFA, is the Chief Investment Strategist for BlackRock and iShares Chief Global Investment Strategist. He is a regular contributor to The Blog and you can find more of his posts here.