Once Forbidden Frontier Markets by Mark Mobius, Franklin Templeton Investments
Investing in frontier markets can come with a higher degree of volatility than more established markets, but to my team and me, they offer exciting potential. Some of yesterday’s small, agrarian economies have transformed themselves into global powers today—China being the most impressive example. China represents the second-largest economy in the world today, depending on how you crunch the numbers, and it has been incredible to see the changes taking place there in my lifetime. It got me thinking about economies that were viewed as largely untouchable or risky for investors and travelers even just a few years ago, but that today are being discussed as interesting potential destinations for both.
Here are some examples from recent history of countries that were shunned or out of favor in the international community at large, but have undergone big transformations. This includes some emerging and frontier markets that are currently of great interest to us, and countries we are not yet investing in, but that are opening up to investors.
In 1950, trade between the United States and China was roughly US$200 million annually when China became subject to an embargo that lasted 21 years, ending in 1971.1 Today, trade between China and the United States adds up to more than US$500 billion, making China the United States’ second-largest trading partner.2 China has undergone a huge growth spurt over the past three decades and has transformed its economy. For emerging markets investors, China is a destination that certainly can’t be ignored and remains an engine of growth for the world. Even if market watchers have to get used to a “new normal” of slightly slower gross domestic product (GDP) growth than in past years, we think the 7.4% growth rate China reported in 2014,3 and the target of around 7% in 2015 Chinese premier Li Keqiang gave at the National People’s Congress in early March still looks impressive, given the size of China’s economy, and is not something that concerns us.
An adversary to the West in World War II, Japan is an example of a market that moved rapidly from frontier to emerging to developed market status and is now considered one of the strongest allies of both the United States and Europe. Japan’s rise to economic strength has been well-documented as one of the biggest post-WWII achievements and its high-quality, high-tech goods have permeated nearly every corner of the globe. Since its boom times of the 1980s, Japan’s economy might be stagnating, but it still holds plenty of sway in the world’s economy. Its government has been working to increase consumption and jump-start growth through an ambitious, three-pronged fiscal and monetary approach. In our view, the quantitative easing regime the Bank of Japan began in 2013 that continues today should help support global liquidity and trickle down to emerging markets in the region.
Apartheid, a system of legalized discrimination dating back to the 1950s, cast a shadow on South Africa in the eyes of the international community for many years. In addition to United Nations sanctions, the US Congress passed the Comprehensive Anti-Apartheid Act in 1986, resulting in the withdrawal of many large multinational companies from South Africa. The end of apartheid in South Africa in 1994 opened the door again to wider investment in the country, but since then, its economy has been struggling to reach its full potential for a variety of reasons.
South African stocks have started 2015 on a solid note, aided by the recent drop in oil prices. In particular, retail businesses (particularly clothing and food) seem to be benefiting from the potential boost to domestic consumption from lower fuel prices. While South Africa has been struggling with an electricity crisis that could stunt GDP growth this year, we continue to believe that attractive long-term investment opportunities exist across a range of South African markets and sectors.
With the government’s focus on redistribution of wealth and extensive social grants, companies that provide goods and services to consumers at the low end of the income scale have benefited tremendously and, in our view, should continue to do so. Also, many South African-based companies that generate a substantial portion of their income from operations and investments in other markets have benefited from a weakening of the South African rand relative to the US dollar and other major currencies. The real estate sector has been stable with price growth in recent years, fueled by demand that substantially outstrips supply, especially at the entry level. In this regard, the financial sector plays a key role, with banks taking a fairly conservative approach to both asset-backed and non-asset backed lending activities. Moreover, a number of South African companies are investing on the rest of the African continent across a variety of industries, including infrastructure, retail, financial services and telecommunication.
Here are some examples of frontier markets that were out of favor, but are transforming and opening up to wider foreign investment. These are just a few of the markets in which we are investing, or watching for potential future opportunities.
Since the end of what’s known as “the Vietnam War” in the United States and “the American War” in Vietnam, the country has seen some huge changes. Vietnam’s rise hasn’t been as powerful or fast as Japan’s post-WWII experience but a construction boom has been underway. In 2010, Vietnam got its first skyscraper, the striking Bitexco Financial Tower, which stands as a beacon in Ho Chi Minh City. An even taller building is currently under construction in the city, expected to rise to about 350 meters and contain a luxury hotel, apartments, shopping and what is said to be Southeast Asia’s highest restaurant and bar. Franklin Templeton has an office in Ho Chi Minh City, and it’s been exciting to visit the city and see the changes taking place there and around the country.
The middle class has been growing in Vietnam and people have also been trading in bicycles for motorcycles, scooters and automobiles. To help alleviate the traffic on busy city streets, Vietnam’s first-ever subway system has been under construction with the help of foreign investment from Japan, France and China.
The chart below shows how Vietnam’s people have been eager to have access to new technology, with growth in mobile phone subscription rates topping even India and the United States during 2002–2012.
While it is clear there has been progress, Vietnam’s transformation has been slower than we’d like. The war was so traumatic and the people remain a bit sensitive about foreign dominance, which has hindered the acceptance of foreign investment. The Vietnamese seem to be gradually overcoming these reservations because of the positive developments they see to the north in China, and we have recently seen more movement in allowing greater foreign investment. Vietnam’s stock market is not very liquid, and it is considered a frontier market; but Vietnam has had a fast-growing economy, and we have found good companies there, including some that are state-owned.
I had the pleasure of visiting Myanmar earlier this year, and it’s a perfect example of what we view as “the next frontier” of untapped markets in which