What makes a good investment in frontier markets? Although there is no winning formula or miraculous answer to this question, following sound investment principles will give you an edge even in frontier markets.
Use the same investment principle in frontier markets as in mature markets
When analyzing companies from frontier markets you might consider different factors than when analyzing companies from more mature markets. However, you can use the same investment principles.
Do not try to re-invent the wheel! One investment principle to take into account is the sector future prospect. Certain sectors offer a global exposure for frontier markets, but even these sectors are dominated by big European or US companies.
If you want to get exposure to global trends stick to the commodities sector, BRICS or mature markets, do not go for frontier markets.
Sectors such as mining, energy and commodities are part of the global dominance of western companies. These sectors are exposed to global economic trends and are highly correlated with bigger emerging or mature markets.
When investing in frontier markets, think global and act local.
But why investing in frontier markets then? I am not proposing the same sectors where everybody got over-invested in the BRICS. Here I am presenting the sectors suited for frontier markets investment. Sectors with a local focus, where domestic or regional companies can create and maintain a monopoly. Let’s see what sectors offer these type of opportunity.
Cement and construction business
The cement industry is very local. Often, cement companies are servicing clients for a radius of only 100 miles.
Mark Mobius said that upon visiting Columbia, he got very exited about a cement producer that was serving the local construction sector.
In the construction sector, although a cyclical one, the big players are usually focused on infrastructure projects. These projects, and the revenue generated, span over a period of years.
The construction sector can be very profitable, but as major infrastructure projects are commissioned by local governments, the main issue to consider upon analyzing a local construction business is the political connection.
These tends to be an asset when commissioning big projects, but the moral factor comes into play. It is up to the investor if he is willing to accept it and invest in a strong construction company that has a few favorable connections.
As mentioned in this post, agricultural companies with a local focus offer a great opportunity for long-term revenues. When investing in agricultural companies, one factor to consider is the increasing disposable income of global population.
In the last decades, not only technology got cheaper but also food staples. Frontier markets population are finding it easier to put high protein meals on their table.
One benefit of investing in agriculture is the straight forward business model that exposes rather quickly the financial flaws or strengths of a company.
When it comes to domestic food staples or perishable food, local players have developed market monopolies and logistical networks that act as high barrier to entry for outside competitors.
Online local giants
I am not looking for Rocket Internet, the company that is creating copy-cut companies after US internet companies. The companies that I am talking about are the local Amazon.com and local ebay.
For a SaaS (Software as a Service) company might be easy to translate its interface and penetrate new markets or regions. But for an internet company that needs logistics in order to function, local player have an advantage.
By definition internet is global, but some sectors turn local players into giants.
Companies as Naspers of South Africa offer such an example. Its portfolio includes big regional e-commerce sites and e-payments solutions. Domains where a giant like Amazon will find difficult to penetrate without a big infrastructure network behind.
One of Warren Buffett’s favorite sectors for investment. In every part of the world utilities offer the same advantages or economies of scale, barrier of entries almost impossible to penetrate and a local population dependable to their services.
Frontier markets utilities offer another great advantage, government protectionism and guaranteed monopoly. Isn’t this what every company is striving to achieve, predictable and almost guaranteed future cash flows?
Also consider that local governments have majority stakes in these companies. And they [local governments] are depending on the dividend income of utilities, so the future dividend income is usually certain and predictable.
This companies can be the dividend cash cow of the portfolio.
A sign of warning
This article lays the foundations of where to look for investable local companies. From research I find the above mentioned sectors are best for investing in frontier markets. However there are also other sectors that offer great investing opportunities.
You should never invest in a sector just because has good future prospects. Always do you research and look for local or regional champions. Do you homework and be responsible in your investments.
All content on DraculaCapital.com is for information purposes only. Do not use this content as investment recommendation. Every type of investment involves the risk off losing investment principal. Frontier Markets presents higher risks than mature markets.