Frontier markets had a fantastic year in 2013 in contrast with the mainstream emerging markets. Data from FE Analytics shows the MSCI Frontier Markets index grew by 23.6 per cent as the equivalent emerging markets index fell 4.46 per cent.
Performance of indices in 2013
Source: FE Analytics
Vecht (pictured) places huge importance on the valuation of a potential investment, but says that he is not concerned about the sustainability of the rally after the recent surge.
“In three years of rising frontier markets, valuations haven’t changed that much,” he said. “All that happened is that you had three years of earnings growth that weren’t reflected in the price. So you are still in the early stages.” “That said, some markets look very expensive, such as Kenya on four times book [value]. On the wrong valuations we don’t want to have very much exposure to it. We have been cutting back on Nigeria for the same reason.”
Vecht says he bought into Nigerian banks a few years ago when they were trading on low valuations and sold out after gains of between 100 and 150 per cent.
However, his universe as a whole still looks cheap, the manager says, and he hopes for further gains in 2014.
Our data shows his BlackRock Frontiers trust saw NAV gains of 30 per cent last year, ahead of the benchmark’s returns, while shares in the trust rose 43.97 per cent.
Performance of trust vs indices in 2013
Source: FE Analytics
This was far more than any emerging or frontier markets portfolio on the market.
Vecht’s views are backed up by Jan Dehn, head of research at emerging markets specialist Ashmore, which buys into many frontier market countries on its emerging markets funds.
“Within frontier markets, we remain bullish after a strong 2013,” he said.
“The relative outperformance of these markets indicates the degree to which they can be insulated from domestic issues in neighbouring countries,” he added.
“The announcement by MSCI to upgrade the UAE and Qatar to emerging markets status in June 2014 provided a big boost to equity markets there; however, Saudi Arabia, which is not in any major index, also delivered strong positive returns.”
“Africa continues to remain a destination for investors seeking long-term, uncorrelated growth opportunities.”
“Nigeria is set to overtake South Africa as the continent’s largest economy, other markets such as Ghana and Botswana are shining on improved governance standards, and liquidity is improving as foreign investor flows grow.”
“Last year alone, trading volumes tripled in frontier markets against strong fundamental results. We expect these positive trends to continue in 2014.”
Frontier markets were touted by many analysts as an alternative to emerging markets last year as the mainstream index faltered.
However, there are few ways to get access as a retail investor. Vecht’s £181m BlackRock Frontiers is the best-regarded option, but it is trading on a 3.3 per cent premium.
Advance Frontier Markets is on an 8.7 per cent discount but has an inferior track record and a more benchmark-aware approach.
Vecht says that he expects the emerging Europe region to be the surprise package of 2014 and to repeat the success of frontier markets last year.
His BlackRock Emerging Europe trust is in an analogous position to his frontier markets portfolio at the beginning of 2013, he claims.
The manager has run the £97m portfolio since 2009, but changes to the fund’s structure this year have allowed him to put better long-term plans in place.
In the summer the board removed the buyback facility on the trust which had seen institutional investors eat away at it by redeeming their holdings at NAV.
In its place is a facility to offer investors an exit in five years’ time, allowing the managers to take a more long-term view without having to worry about outflows.
Vecht and co-manager David Reid, who joined in April, are free to take a concentrated benchmark-agnostic approach and look for undervalued investments they expect to pay off in five years, such as the Turkish banks which took a battering after the recent political volatility in the country.
Vecht says that the countries he is buying into on that trust are at an earlier stage in the cycle to the frontier market fund’s universe.
“Emerging Europe is at a much earlier stage, because capital has been withdrawn for much longer so emerging Europe is more like frontier markets in 2007 or 2008,” he said.
The manager says that there is one main advantage that eastern Europe has that the market is yet to appreciate.
During the early years of the eurozone crisis when the future looked bleak for the developed world, investors pulled their capital from Europe and put it into the emerging markets and Asia.
However, emerging Europe was wrongly lumped in with peripheral Europe and money was pulled from this region, too.
As a consequence, companies had to become more adaptable and efficient, unlike emerging market firms which splurged their cash in a frequently ill-disciplined fashion.
This chicken has come home to roost since the summer tapering sell-off, as emerging market companies have suddenly found credit harder to come by.
Data from FE Analytics shows BlackRock Emerging Europe has made 77.98 per cent in share price terms since Vecht took over in May 2009, although it is down 20 per cent since its peak in April 2011 and made modest gains last year.
Performance of trust vs index since May 2009
Source: FE Analytics
The trust is on a 7.9 per cent discount, according to the AIC, and has ongoing charges of 1.21 per cent.
It is 48 per cent invested in Russia, 18 per cent in Turkey and 11 per cent in Poland, with financials and energy its largest sector bets.
BlackRock Frontier Markets had ongoing charges of 2.83 per cent in the year to last September, inclusive of a performance fee.
