Issue: September-November 2011


New frontiers are open

While there are reasons to be optimistic about their potential, quick gains are likely to be more the exception than the rule. These markets require special understanding and patience, GARETH STOKES reports.

In the search for higher yield than developed markets offer, more than ever are fund managers getting their feet wet in Africa. They’d better know their stuff, especially as the revised Regulation 28 encourages SA pension funds to look north of the Limpopo.

The rationale goes beyond good neighbourliness or social responsibility to the “economic opportunities” highlighted by no less a luminary than Jim O’Neill who chairs Goldman Sachs Asset Management and coined the BRIC (Brazil, Russia, India and China) phrase to capture the main growth centres in emerging markets. When he mentions “rising investor interest” in Africa, ears prick up.

As opposed to western investors, Frontier Advisory chief executive Martyn Davies believes that China and India have a head start on the continent because of their greater tolerance for business risk. Also, he notes: “Considering the reorientation of African economies toward Asia and the growth coupling between the two regions, investment into the African continent will be able to leverage the long-term Asian growth phenomena.”

Where will the money go? Already it’s going directly into projects, like infrastructure development and acquisitions of agricultural land where China and India are big players, and into equity markets. Check out the latter.

Outside SA, the biggest African stock exchanges are in Egypt, Morocco and Nigeria. They’re followed by Kenya, which has a market capitalisation of some $10bn, and sub-$5bn markets such as Zimbabwe and Zambia. Fund managers tend to focus on the larger economies.

A favourite of Mark Mobius, chairman of Templeton Emerging Markets Group, is Nigeria: “The country has a population of about 155m people. It offers rich oil and gas reserves as well as raw materials including iron ore, coal and bauxite.”

With African markets generally, it’s necessary to be cautious about reports of exceptional returns over any one-month period because consistent performance is difficult. “An investor in the larger African stock markets would have lost money over the past year,” points out John Legat of Imara. The group manages $350m in sub-Saharan Africa (excluding SA) and has been active in the sub-continent since 2005.

For the year to end-June, he notes, in US dollar terms the Egyptian stock market was down by 15,4%, Kenya by 19,2% and Nigeria by 5,1%. Over a threeyear period Nigeria was down by 66,3%, Egypt by 52,5%, Kenya by 45,7% and Morocco by 25,7%.

“Where investors made money over the past year, funnily enough, was in some smaller markets”, he says, pointing to Zambia and Mauritius which both were up by around 40%. Mostly, however, African markets have yet to recover fully from the 2008-09 global crash.

Nigerian stock exchange . . . an action station

Frontier markets differ from emerging markets,” warns Legat, and fund managers require different skills sets to succeed in them. Mobius singles out corruption as a major problem: “It takes two to tango, so accusations of corruption against African governments could also potentially be lodged against entities in the developed world that seek to buy the influence of these governments.”

Political instability is another negative. Jonathan Kruger, who manages the Prescient Africa Equity fund, says turmoil in Egypt and Tunisia made a number of investors rethink their African investments: “Fear particularly gripped the Egyptian market, causing investors to flee and quickly drive it down by over 20%.”

In addition, as Mobius suggests, liquidity in frontier markets is a larger issue than for the more mature emerging markets. Even so, the lack of direct competition from other funds has made it possible for the likes of Franklin Templeton to take large positions in less liquid companies at favourable valuations. “Overall, our risk models give us comfort that we can trade in and out of almost all our positions even if conditions deteriorate,” he says.

Frontier markets’ liquidity should improve as domestic investors begin to accumulate savings and foreign investors become increasingly active, Legat reckons: “More of the investors now going into Africa are specialist Africa funds or frontier funds that understand the liquidity risks and are taking longerterm views.”

These views would assume that what’s happening in Africa today is a replication of the lift-offs that started in Asia three decades ago and in Latin America 20 years ago. Shorter term, there are bargains to be had even in some of the more remote countries provided investors take the trouble of finding them.