Why frontier and emerging markets are separate asset classes

By

Updated

With all the turmoil in emerging markets recently, some investors may be especially wary of investing in so-called frontier markets. Russ explains why frontier and emerging markets are separate asset classes, each deserving of a strategic allocation.

With all the turmoil in emerging markets recently, some investors may be especially wary of investing in so-called frontier markets, traditionally the riskiest areas of the emerging world.

EEM price

Market Realist – The graph above charts the performance of the iShares MSCI Emerging Market Index ETF (EEM) over this year.

Emerging markets (EEM) didn’t perform well in the first quarter of the year, given geopolitical risks and news of an economic slowdown in China (FXI).

The first quarter saw an outflow from emerging markets (VWO) of as high as $13.9 billion as news of tensions and financial crises in Ukraine, Argentina, and Turkey hit the markets in quick succession.

Article continues below advertisement

China experienced economic imbalances in the first quarter of the year in the form of pressures in the housing markets, low GDP growth, and a burgeoning total debt of over 206% of its GDP. This forced investors to draw out as much as $1.5 billion from ETFs investing in the country. Chinese equities have been feeling the heat this year, as the Shanghai Composite Index was down 0.5% this year (as of July 25, 2014). You can single China out as the worst-performing major Asian developing market.

Latin America was also hit as reports of higher-than-expected inflation of 6.5% dampened investor sentiments.

But there’s been a turnaround in emerging markets, as investors are bolstered by the news of fresh and dynamic leadership changes in India (EPI), Indonesia, and Brazil (EWZ).

According to estimates by Bloomberg, emerging market ETFs have been able to recoup their outflows. They’re now in the green with a net positive inflow for the year of $109 million.

As geopolitical tensions rise, investors look at safe-haven assets like Treasuries (TLT). But U.S. Treasuries offer very low yields. In search of higher yields, investors have turned to emerging markets. There’s again a positive sentiment in the emerging market segment as investors expect Narendra Modi in India and Joko Widodo in Indonesia to provide a growth impetus to the respective economies. The Chinese economy is on the rebound. It’s showing signs of healthy revival.

Emerging market bonds (EMB) have received about $1.4 billion this year, showing recovering confidence in emerging markets. With a renewed interest in emerging markets, you could also consider frontier markets.

Read on to the next part of this series to see why frontier markets could be a good asset class for you.

Advertisement

More From Market Realist