Frontier markets lure – and reward – hardy investors

After violence erupted in Kenya following December's disputed presidential election, the African nation's stock market might have seemed like a risky place to put money.

But some clients of Wambia Capital in Boyds, Md., evidently saw the situation differently. "Some of the clients said, 'If you see stock bargains [in Kenya], we want to buy them,' " recalls investment adviser Joseph Wambia. These seasoned investors "have already seen ups and downs in markets such as India's and Pakistan's," he explains. And now, as they seek fresh, new investment horizons, they believe "Africa is the next frontier," says Mr. Wambia, who plans to launch a hedge fund for investing in that continent.

Evidently, Wambia's clients aren't the only ones trolling for new opportunities. After exploring such emerging markets as Russia, China, and Brazil, more investors are venturing into smaller terrain from Bangladesh to Botswana.

In such "frontier markets," rising prices of commodities (oil, for instance) and economic and political reforms are spawning greater economic growth and higher corporate profits, experts say. As a result, many of their stock markets are delivering big returns – and helping their investors further diversify their portfolios.

Consider last year's stellar returns from this sector: In 2007, the S&P/IFCF frontier markets composite of 24 countries' markets posted a 45.6 percent total return, beating S&P indexes that track emerging and world markets.

Among specific frontier markets, Bangladesh's led the pack last year, with an eye-popping 128.3 percent gain. In addition, Côte d'Ivoire's market soared 122.7 percent; Ukraine's market jumped 110.6 percent; and Mauritius's market catapulted 100.6 percent, according to Standard & Poor's data. The worst performer, Estonia, posted a 14.2 percent drop.

Such frontier market showings have sparked an array of responses: new frontier market indexes from Standard & Poor's and from MSCI Barra, more investment funds for these arenas, and a gush of money raining down on at least some of the markets.

According to data of EPFR Global, which tracks fund flows and allocations globally, net inflows from around the world into African regional equity funds hit $650 million in 2007, up from about $100 million the year before. Moreover, Middle East regional equity funds drew net inflows of $402 million last year, versus $130 million of outflows in 2006.

And this year through Jan. 23, funds for Africa-only, Middle East and Africa, and Middle East-only attracted $617.9 million in assets from investors worldwide, according to Brad Durham, mana­ging director of EPFR Global in Cambridge, Mass. That was all the more notable, he says, since "investors' sentiment has significantly deteriorated toward global equities overall."

To be sure, money flows have inflated some frontier markets. For example, as of December 2007, Vietnam's market had an astounding price/earnings ratio of 93.5, while Bulgaria's market had a 54.3 p/e ratio; Slovenia's had a p/e of 41.7; and Romania's had a 35.9 p/e ratio, according to Standard & Poor's. (In general, the higher the p/e, the more expensive the stock is relative to its fair value.)

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