Portfolio Managers Yvette Babb and Daniel Wood explain why they see potential value in investing in frontier markets debt, on a standalone basis or as part of a more diverse portfolio—and why they believe their team is well positioned to find compelling opportunities.
Watch the video or read the transcript below.
We love investing in frontier markets because each opportunity is truly unique, and the breadth and depth of this universe is constantly expanding.
What Are Frontier Markets?
We look at a subset of countries which are generally at a lower level of development. These are countries that are classified as lower income, but perhaps also lower middle income. It’s particularly the capital markets that are underdeveloped. They’re narrower, they’re less liquid, but also have a less large number of issuance available.
Why Consider Frontier Markets?
We believe that this asset class will have strong appeal to a wide range of investors. Why? There are two main reasons.
We believe this asset class has strong risk/return characteristics—valuations, fundamentals, and technicals.
Firstly, diversification. This asset class is not very correlated with other risk asset classes, such as equity or spread products. Why is this? Most of the research will be analyzed very much from a country perspective rather than a global macro perspective, and this makes the movements of asset prices way less correlated to the price of other assets.
The second reason is we believe this asset class has strong risk/return characteristics. We look at frontier market through three lenses—valuations, fundamentals, and technicals. And through each of these lenses, we’ve seen improvement over the last two years.
From a valuation perspective, many of these countries have actually devalued their currency, so now these currencies are fair or cheap in valuation; raised monetary policy, so that you're getting a much higher carry; and implemented liquidity reform, to make access to these markets that much easier.
From a fundamental perspective, a lot of work has been done by governments in frontier markets to reduce the debt burden and to implement reforms that are positive for these countries’ long-term economic goals. This raises the potential growth of these countries and makes them a more attractive investment destination for foreign capital.
A Role for Active Investors
Frontier markets are fairly unique in the sense that there is still a large amount of inefficiency. It’s mainly due to the fact that the perceived risk in these markets far overstates, in our mind, the actual risks.
This excess risk premium is something that we feel can easily be uncovered through the bottom-up work that we do from a credit analyst perspective as well as a sound understanding of how these markets technically operate, and we feel the valuations are easy to assess by looking at them from a bottom-up perspective. And it’s about making sure that we manage the risks and potential drawdowns from an individual holding.
Our Experience in Frontier Markets
These are countries where you need to do your homework, to visit these countries, immerse yourself in the culture, and really understand the fundamentals of the economics of these particular countries.
We represent 10 different countries within the team.
The team is extremely diverse and many of the participants come from emerging and frontier markets themselves. We represent 10 different countries within the team.
For example, being born and raised in South Africa, having worked for a South African Bank, and having traveled the continent extensively in that capacity, Yvette has intimate experience working with issuers in the local markets and seeing them develop into a larger presence in the international space.
The Opportunity
We believe that there is value in investing in frontier markets, on a standalone basis or as part of a more diverse portfolio. Both in hard currency and local currency, we find very strong, bottom-up opportunities.
Daniel Wood is a portfolio manager on William Blair’s emerging markets debt team.
Yvette Babb is a portfolio manager on William Blair’s emerging markets debt team.
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