Investment Adventures in Emerging Markets

The Next Investment Frontier

Many people have asked me what are frontier markets? In summary, they are the next emerging markets and include the likes of Kazakhstan, Romania, Nigeria and Vietnam. The key characteristics are the fact that they are overlooked by investors and have offered fewer investment opportunities. Frontier markets, generally, have companies that are oriented towards their respective domestic economies rather than the global economy, so we believe that they have less correlation to emerging markets in general.

Most investors have refrained from investing in frontier markets because of the perceived risks. However, I do not believe that the level of risk is necessarily higher as compared to emerging markets. Frontier markets generally share the same political and economic issues as emerging markets, but their valuations may be more attractive as a result of this perception. At the end of the day, it all boils down to picking the right company or stock.

The City
The City

I was in Mongolia a while back looking at potential opportunities in this frontier market. We flew in at midnight to Ulan Bator, the capital of Mongolia and home to 38% of the country’s three million population. Arriving at the Ulan Bator airport was like arriving at an airport in Siberia. The Russian influence was clearly evident, not only by the Cyrillic lettering on signs but also by the somewhat undeveloped facilities. Airport guard uniforms were very Soviet-like with those extra wide brim hats that could have been designed to double as umbrellas.

Mongolia’s total geographic area is 1.6 million square kilometers which makes it the 19th largest country in the world, about 16 times bigger than South Korea and four times bigger than Japan. Although Mongolia’s per capita GDP is only US$2000, a reasonable amount of wealth has been accumulated by growing business groups as a result of a mass privatization program.*

 

Our company visits included banks, conglomerates, cashmere factories (cashmere is a major export for Mongolia), and coal mines (another major export, particularly to China). We started the next morning with a bone-jarring drive to see a coal mine. The roads were terrible – very bumpy – and I began to understand why there were so many 4WD vans. When we had to go off the paved roads on to the steppe it got worse and the driver didn’t seem to differentiate between the actual road and the steppe plain. I usually like to use my computer or read when I’m on long drives but this time it was impossible.

Mining Site
Mining Site

Mining is taking place on a limited scale. We visited one of the subsidiaries of a North American firm that was mining coal along the Chinese border. One problem they face is that they want to build a railroad to the Chinese border to save transport costs and speed up exports, but the Mongolian government insists that any new rail tracks use the same Russian gauge that are used on the Mongolian rail system that connects to the Trans-Siberian Railway. Of course, the Russian gauge is different from the Chinese gauge so the rail car wheels would have to be changed in order to fit the Chinese gauge, a costly solution.

The Mongolian government seems to be grappling with a post-Soviet nostalgia combined with a fear that they will be ripped off by foreigners. In addition, there is a fear that China will take over, or if the Chinese don’t take over, then the Russians will. This is overlaid with a mixture of ossified Tibetan Buddhism and ancient animism and spirit worship – for example, some monks warn that by digging up the earth to get minerals, the spirits will be disturbed. Nevertheless, there is a new generation of entrepreneurs who want to overcome the barriers of history and tradition.

This was just one of the business opportunities we explored in Mongolia, and there are many reasons for us to return to the land of Genghis Khan. If global economic recovery continues on track, I expect frontier markets, like Mongolia, will continue to have very compelling investment opportunities over the next year and beyond.

Countryside in Yurt
The Countryside in Yurt

*Source for 2008 GDP per capita (est): CIA World Factbook, as of Sep 2009.

 

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