Dateline: Valencia, Spain
I’ve been in Spain for the past several weeks. It’s one of the first times in months I’ve spent time in the western “developed” world. Before Spain, I was in Turkey, Georgia, Malaysia, and even Mexico.
One thing you notice in these emerging economies is that you can barely go two feet without somebody building something. They’ve ripped down crumbling old buildings and are putting better ones in their place. Things are happening.
Yet, during these past weeks in Spain, I’ve only come across one building under construction.
To me, the most exciting thing about frontier markets is that things are happening. I remember getting that exciting feeling once, several years before my offshore days. It was 2005 and I hadn’t been in business for very long. I had just rented my first place in the big city and was standing on my balcony, looking out at the city. The air smelled so fresh and I just had this great feeling that this was the beginning of something big. I was starting to really tap into the market and business was so easy.
Of course, three years later, nobody wanted to do business. I was fortunate enough to still do well by shifting my model, but the air in the radio business didn’t smell fresh and exciting anymore. The world didn’t seem yours. Unfortunately, that’s how it goes in the United States.
On the other hand, after years of running offshore businesses and making overseas investments, the air is still as fresh as ever.
For me, that’s the most important thing about a frontier market. When I landed in Istanbul, just during the drive from the airport into town, I could literally see opportunity at every turn. They were constructing building after building. Still, real estate in Istanbul somehow hasn’t gone down in twenty years. The same goes for Georgia where real estate hasn’t gone down in ten years.
To put it simply, frontier markets are exciting.
What is a frontier market?
But what exactly is a frontier market? According to Investopedia,
The phrase “frontier market” refers to markets around the world that are beginning to develop and have yet to become completely stable. These markets lack a lot of standard legal and financial regulatory institutions, making them riskier investment environments for investors.
There is no exact line between frontier markets and emerging markets, but frontier markets tend to be just a step below emerging markets.
While the exact line is hard to define, frontier markets often have smaller market capitalization, higher volatility, reduced transparency, lower liquidity, higher trading costs and higher sovereign/geopolitical risk.
Frontier markets are, in my mind, the final frontier. They certainly carry more risk, but they also have the greatest potential for growth.
The benefits of frontier market investing
In fact, there are numerous benefits to investing in frontier markets. For one, frontier markets are often isolated from the rest of the world, making them less dependent on the global monetary system. Because of this, they are often immune to global recessions and depression.
So, while frontier markets may be risky by one account, they can also be an important part of a diversified portfolio. An investor who spreads their risk by placing some capital in overlooked markets that are in their infancy — markets where their investment is the most welcomed and needed — will be better off than investors who place all their capital in “developed” markets that are all susceptible to global financial crises.
Furthermore, by placing capital where growth is just taking off, you are putting yourself in the perfect position for monumental gains in the future. Even small increases in the standard of living in frontier markets can create serious returns on your investment.
Still, some frontier markets aren’t at the threshold of growth and development. Many frontier economies will continue to struggle, draining you of your capital in the process. Because of that, it is important to look for basic trends that indicate the greatest potential for growth.
How to identify high potential frontier markets
I recently read an article outlining the most important trends to look for to identify countries on the verge of economic growth. Surprisingly, I agreed with just about every point the article brought up. Here are the most compelling factors to look for:
Countries with low per-capital GDP where both institutions and the workforce are undergoing a transformation.
High Population Growth: This leads to an ample working-age population, which can give a powerful boost to GDP under the right conditions.
Health: Good health is essential for growth and productivity. Data on life expectancy can give you a general idea of the overall health of a population. Still, don’t completely write off countries with lower life expectancy. Improvements to health and sanitation facilities can greatly improve living conditions and lead to economic growth.
Urbanization: Larger cities can increase productivity in frontier economies because they encourage economies of scale in production and distribution. Companies also benefit from knowledge transfers and a larger, more diverse labor pool.
Ease of Doing Business: This is an obvious factor you should take into consideration. The World Bank’s Doing Business Index is a great place to find information on the business atmosphere in each country, as well as the Heritage Foundation’s Index of Economic Freedom.
It is important to take these and other factors into account when choosing where to invest. Investing in a country simply because it is a frontier market can be a very foolish move. There are countries with all the fundamentals in place, you just have to do your homework to find them.
The challenges in frontier markets
Even markets with all the right fundamentals will have their challenges. Just looking at the data won’t paint a full picture, nor will it prepare you for the various challenges of investing in frontier markets.
I once interviewed the economist Harry Dent about his demographics theory for predicting economic growth. In a nutshell, you’ve got great demographics in frontier markets. In Africa, the average age is 19 years old, and that’s only going to get better.
But it’s not all about data.
The challenge in some frontier markets is that they are closed off to investors. Even if they’re not completely closed off, they often make things difficult for investors. Myanmar is a perfect example of this. Though it is a promising frontier market, anyone smaller than Coca Cola will find it impossible to enter the country.
Once you find a country that is open to investors, you will find a new set of challenges. As a byproduct of their disconnection to the rest of the world, frontier markets are hard to invest in because of their poor financial infrastructure.
Plus, contracts can quickly become worthless. This is one reason why I have always focused on creating a strong network of locals who know the ins-and-outs of deal-making in their specific market. Local associates substantially decrease your risk of being “ripped off” and increase your chances of finding the best deals.
A few years back I helped a friend of mine started a property fund to invest in Cambodian real estate. Pretty vanilla, but his track record is excellent. Though it’s very open to foreigners, Cambodia presents some of the typical challenges you’ll find in frontier markets.
My friend started his business riding around on his motorbike looking for deals that weren’t available publicly. He learned the Khmer language for “for sale” and would write down the phone numbers from the signs he would find. Then he hired an assistant to call the phone numbers.
Once he found a property, payment was made in cash and fingerprints were taken at the local town hall (which is like a hut) to seal the deal.
More often than not, frontier markets will require this level of hands-on investing. The infrastructure is not built out as much to sell to you. You can’t just to do deals online or over the phone.
Finally, if you are going to do business in foreign countries, it’s important to understand the government’s hot buttons. I’ve lost track of how many different countries I’ve gotten the tip to stay under the radar.
Running a quiet business that grows over time is fine. Running a crazy, in-your-face business … not so good.
Just because there are far fewer rules in frontier markets than in your bankrupt western country doesn’t mean that there aren’t any rules at all. In order to navigate your way through those rules, you have to do your research, put in the time on the ground, and preferably involve a local in your business.
The best frontier market investments
If these challenges don’t phase you — or even excite you — then frontier markets may just be for you. For the average person, an emerging market probably makes more sense and will be more convenient. Nevertheless, if you are interested in frontier markets, I’ve outlined three basic investment strategies that you can use:
1. Buy real estate
As I’ve already illustrated, investing in real estate on your own can be a little bit tricky. Still, places like Cambodia offer some of the biggest opportunities I’ve seen.
One of the reasons I helped my friend set up his real estate fund is that it costs more to rent a nice apartment in Phnom Penh, Cambodia than it does in Kuala Lumpur, Malaysia. Even though Malaysia is the most developed country in the region (besides Singapore), there is so much competition that it drives down the prices.
There’s no competition in Cambodia. That is why converting properties in Cambodia to western-style apartments makes a lot of sense. Just as I predicted three years ago when I invested in Cambodian real estate, it’s already paying off and the places are still high for rent.
For any frontier market, I would suggest you go and live or at least spend time in the country before investing. Most frontier markets aren’t really places where you go on vacation and pick up a property. If you’re looking for something less hands-on, I would recommend investing in a real estate fund.
2. Start your own business
One of the bigger opportunities I see in frontier markets is to start a business on the ground. There is huge potential in these markets precisely because they have very few of the services common to in the western world.
My friend’s father saw this potential back in the early 90s after the fall of communism. As a pilot, this native of Poland took every chance he had to buy computers and other merchandise on flights to places like Singapore. He knew that as Poland developed, demand would outpace supply and anyone would buy anything.
In that situation, the mentality was that “he who has the goods is in control.” And that is still the mindset in Poland and much of Eastern Europe today.
Compare that to the US where the mentality is “the customer is always right” and “I’m the one buying so you should bow down to me.” It’s not like that in these countries. You have to be in the thick of it, but that how easy it is in some of these places.
In the West, smart businesses have become all about niche. With so much supply in the market, it can be a death sentence to compete with huge, established players in a large market. In developing markets, opportunity is everywhere if you can offer affordable products for a market with increasing buying power.
3. Fund someone else’s business
You don’t have to start a business on the ground to benefit from the incredible growth in frontier markets if you can provide venture capital. There is plenty of room for improvement in these countries, starting with basic infrastructure such as transportation, banking and telecommunications.
Many companies have already established themselves in these markets and there is always a need for investment. Again, if you are looking for something less hands-on, there are investment funds that will allow you to invest in these businesses without much hassle.
However, if you are more like me and want control over the kinds of investments you make and the potential return they will give, here’s my fail-proof strategy:
When I go to a new country, I start by hiring a good lawyer. I overpay him. We then go and he introduces me to people. He helps me figure out how to place job ads and does stuff that even a lawyer usually wouldn’t do. He becomes my point man.
Now, he might hire an assistant and together they go out and bring in people with properties and companies. They ferret out the bad ideas and then I talk to the best of the best. It’s as simple as that.
There are even opportunities to purchase great companies at steep discounts in many frontier economies during times of general market weakness. For example, the recent dive of oil prices has many emerging markets under strain. Buying now can provide even lower entry points than you would usually find.
Frontier markets and their rankings
Now that we’ve covered all the benefits, characteristics, challenges and ways to invest in frontier markets, we should probably take a look at the markets themselves.
I’ve listed each region and country according to three different categories: “Sizzling”, “Hot” and “Warm”. Sizzling countries are experiencing dramatic growth and already have intense investor interest. Hot countries have all the right conditions for serious growth. Through my sphere of thinking, some of the sizzling and hot countries better fit the emerging market category. However, there is some overlap. You’re most likely to find the real frontiers — those only for the brave of heart — listed under the “warm” category.
Sizzling: Rwanda, Mauritius
Hot: Botswana, Egypt, Ghana, Nigeria, South Africa, Tunisia
Warm: Ethiopia, Gambia, Liberia, Lesotho, Morocco, Mozambique, Namibia, Sierra Leon, Tanzania, Uganda, Zambia, Zimbabwe
Note: Many African nations are at a much earlier stage of development compared to emerging markets. A number of African countries have entered periods of mid- to high-single-digit growth and have favorable demographics for continued growth well into the future.
Asia & Southeast Asia
Sizzling: Malaysia, Thailand
Hot: Bhutan, Brunei, China, India, Kazakhstan, Kyrgyz Republic, Mongolia, and the Philippines
Warm: Burma, Cambodia, Indonesia, Laos, Nepal, Sri Lanka, Vietnam
Note: While Myanmar may be the better country to invest in a decade from now, it is still too risky to recommend it over Cambodia or other countries on this list. Myanmar’s political risk, restrictions on foreign investors, and the fact that the government must manually approve all investments simply makes doing business in the country too difficult.
Central and South America
Hot: Colombia, Costa Rica, Mexico, Panama, Peru, Uruguay
Warm: Brazil, Cuba, Dominican Republic, Guatemala, Ecuador, El Salvador, Paraguay
Sizzling: Georgia, Hungary, Lithuania
Hot: Armenia, Azerbaijan, Bulgaria, Macedonia, Poland, Turkey
Warm: Bosnia & Herzegovina, Croatia, Moldova, Montenegro, Romania, Russia
Note: Some of my favorite places for investment include the Balkans, Georgia and the Baltics. While the Baltics are a bit more expensive due to their EU membership, you can find some really good deals. For example, in Latvia has great real estate opportunities that can lead to a residence permit and, eventually, a second passport.
The Balkans have even cheaper deals. It is a very interesting, emerging region. If you want to invest somewhere that is absent the EU, but close to European markets, the Balkans will provide you with more area to grow . They are also all very low tax countries.
Finally, Georgia, Armenia and Azerbaijan might look like frontier markets, but I’d categorize them somewhere in between. Regardless, I see them all as great places to invest.
Sizzling: Oman, Qatar, Saudi Arabia, United Arab Emirates
Warm (only for the brave of heart): Bahrain, Jordan, Kuwait, Libya, Pakistan,
Note: I’ve written before about how some of the most interesting opportunities over the next ten years will be in the Middle East. Doing business in this region is an underrated option for westerners who are all too busy going to China. With increasing sanctions against Russia, the Middle East is a very attractive option.
Who’s really suited to frontier market investing?
Frontier market investing isn’t for everyone. In my books, there are two types of people who are suited to this type of high-risk investing: someone with a high amount of risk capital or a young person who has nothing to lose.
For the average person looking to invest in a frontier market — someone who’s not really that adventurous and who’s a bit freaked out about the risks and the chances of getting ripped off — you should probably just have someone handle it for you, to be honest. My recommendation: look into investment funds.
If you’re looking to be a little more hands-on, but just want to hire someone for some help, plan on overpaying a little bit. It will make a world of difference, especially if you’re working with an English language person working on the ground. By overpaying a little for quality help, you won’t get ripped off and the extra spent won’t lead to the end of the world.
If you’re me, just do it. But most people don’t even know how to get out of Atlanta. Figure out what level of risk (and adventure) you’re willing to take on before deciding to invest in frontier markets. If you decide that it’s your cup of tea and you want some help in getting started, you can apply for some help here.