By Max Thornton from Extremity capital
Over the course of the last 3 months, I have decided to deepen my network across the Frontier Market and Infant Emerging Market (FM/IEM) investment landscape specifically.
I define a FM/IEM investor as one predominantly dedicated to investing in countries where the GDP per capita PPP is less than the global average of 18k USD. I have had over 100 conversations with investors in this space across public equity, private equity and venture capital, and have learnt a good deal about how money managers are adapting to the changing dynamics present in these markets. I am going to break this down briefly across five key evolving areas.
Where is money managed from?
Traditionally, FM/IEM money has been largely run out of London, offshored in UK overseas territories such as Cayman and BVI, but this is shifting somewhat. Whilst many funds still regard London as a headquarters and hub for investor relations, many are looking to locate operations closer to their investment epicentres. The birdseye approach to investing in opaque markets has been highlighted by COVID-19 with investors unable to travel adequately to their key investment markets.
A particular region that is positioning itself as a growing hub for FM/IEM money management is the Gulf, and more specifically, the UAE. Abu Dhabi Global Markets and Dubai International Financial Centre are vying to be the gateway for investing across Asia and Africa. This includes competitive offshore fund formation, plug and play ready made office infrastructure and fast-track visa processing. In addition Abu Dhabi and Dubai are well renowned for their air traffic connectivity e.g Lagos and Bangkok are both a 6-7 hour direct flight. Furthermore, in Southeast Asia, Singapore is positioned well with new fund regulation laws to pick up large amounts of Hong Kong fund exits.
It is undoubtedly clear that FM/IEM money is heavily tilted and tilting further towards Asia, with most managers dedicating at least 50% of the portfolio to the region. Frontier Markets currently make up 1% of global equity markets, 10% of global GDP and 30% of the global population, however, most of these developing equity markets, large economic sizes and populations are increasingly found in Asia and to a lesser extent Africa.
Money managers like to focus on large demographic countries (+50m) that have breached nominal GDP of 50 billion USD+ as a general rule for investment; Kenya, Myanmar, Tanzania, Thailand, Vietnam, Egypt, Philippines, Ethiopia, Bangladesh, Nigeria, Pakistan, Indonesia and India. Of the 13 mentioned, 8 reside in Asia, hence it makes sense there is a clear tilt to the East. Furthermore, the development of capital markets in Asia has been far more accelerated than in Africa.
COVID-19 has definitely proven that a top-down approach to money management in FM/IEM has holes. Funds that rely on being able to quickly fly around the world to make suitcase banker trips have not been able to operate as efficiently.
What’s more, human capital has developed a lot further in many of the regions, with a growing population of local CFA societies in many key markets, meaning employing local analysts is much more achievable and in many cases a source of greater market understanding.
Public vs Private vs Venture
The breakdown between public equity, private equity and venture capital remains quite a geographic one. Funds that invest solely in public equity are able to more easily take a birdseye and passive approach to investing in some of these markets. However, due to reduced liquidity across many stock markets, public equity investors end up owning a security that looks closer to how a private equity investment would function in secondary markets in a developed market economy.
Private equity firms dedicated to FM/IEM have usually been set up on a regional basis to be a focused investor in say, East Africa or Southeast Asia. Venture capital has traditionally been more local due to the nature of local deal flow and the emphasis on local business assistance for portfolio companies. However, it is clear that many PE/VC firms are looking to broaden their investment universe and take a more nimble approach to expanding, with a greater ability to easily conduct business across borders.
The Need for Fluidity
Due to all the trends mentioned, it seems more pertinent than ever that there is a less regimented and more fluid approach to investing in Frontier Markets and Infant Emerging Markets.
Money is now able to be effectively managed far closer to the hubs of investment activity with the emergence of competitors for fund management. With the investment focus evermore shifting East, funds may need to reconsider having their operations so far from their investment epicentre. Furthermore, there is a great opportunity to make the industry far more local and less top-down than it currently is, with a growing ability to employ local personnel in key investment markets.
Lastly, since the lines between private and public equity are becoming more nuanced in FM/IEM, it seems a wise tactic for investment firms, to not be so narrowly focused on one particular asset type if they are wanting to get broad and diversified exposure to a particular economy or region.