FRN Invesco Frontier Markets ETF

Uncertainty in the U.S. markets, the ongoing euro-zone debt crisis, has shaken investors’ confidence in some developed nations. As such, investors are looking for the opportunity to purchase securities elsewhere—namely in emerging nations-- which have potentially higher returns with comparable risks. Of these emerging markets, the frontier market subset could be an intriguing, but often overlooked, segment for those who are betting on longer term price appreciation.  

Over the past two years, the frontier markets, such as the Middle East, parts of Southeast Asia, South America, and sub-Saharan Africa, are gaining popularity over the developed and developing markets. These nations are considered to be the subset of emerging markets that are in the very early stages of economic and financial growth. They also generally have lower market capitalization and liquidity than the relatively developed brethren. (Read: Top Three Emerging Market Consumer ETFs)

Additionally, economies in the frontier markets are smaller and less recognized than the BRICs, and can also face more political instability. Despite the negative attributes, they are growing at a faster pace and have better growth prospects over the next several years thanks to the commodities boom, globalization, and increased productivity and consumption. (Read: Top Three BRIC ETFs)

Below, we highlight three ETFs which target the frontier markets around the world. These products allow investors to target these quickly growing nations in basket form, a technique which can lower overall risk levels especially when compared to individual stock investing. Given the generally higher risk levels in these nations, this could be the way to go for risk adverse investors going forward.

Vietnam In Focus

Recently, the Bloomberg Markets Magazine revealed in its report that Vietnam is the top pick among the 15 most promising frontier markets in the world. This is currently leading a variety of other nations including rapidly growing markets such as the UAE, and fast growing European countries such as Bulgaria and Romania.

This has been reflected in the Ho Chi Minh Stock Exchange's VN Index so far in 2012 as the benchmark has gained more than 20% year-to-date. Furthermore, this nice surge in price has been supported by increased volume levels, suggesting that investors are beginning to broadly take another look at the market for their allocations.   

Despite this surge in the market, the country is not without risks. The market was beaten down severely in 2011 after currency issues and austerity measures impacted the broad economy.

Yet, these measures are starting to bear fruit, especially when looking at the inflation rate. The rate of price increases are moderating while the trade deficit reached its lowest level in the past five years, suggesting an improving trade balance. Furthermore, the World Bank has recently projected that Vietnam’s GDP will increase to 6.1% in 2012, implying a further bounceback in the nation’s fortunes.

Further, Vietnam, the Southeast Asian economy, is poised to benefit from the rebound in global risk appetite, cheap labor, fast-growing and young population, dropping unemployment rate and more foreign inflows. As a result, Vietnam looks promising to us for the long-term. (Read: Is The Vietnam ETF Back On Track?)

Market Vectors Vietnam ETF (VNM)

In order to play this market directly, investors have Van Eck’s VNM. This ETF tracks the price and yield performance of the Market Vectors Vietnam index, before fees and expenses.

The Market Vectors Vietnam index consists of basket of securities that are domiciled and primarily listed in Vietnam and generates at least 50% of their revenues from the country. The index is modified cap-weighted and float adjusted, charging investors 76 basis points a year in fees after waivers.

The ETF seeks full replication of the underlying index, holding 35 stocks in the Market Vectors Vietnam index. Launched in November 2009 and with total assets of $300 million, the fund is non-diversified and uses passive investment approach.

Mid and small companies hold more than 63% of assets with 59.18% concentrated in the top 10 holdings. Top holdings include Baoviet Holdings, Vincom JSC and Vietin Bank. While from a sector perspective, financials, energy and industrials take the top spots in the basket.

The fund registered uninspiring growth last year with negative returns of 43.80% as against index return of negative 41.56%.  Nevertheless, it has delivered outstanding returns of 31.68% in the first two months of this year outpacing the index return of 26.00%. In addition, the fund yields a decent dividend yield which should help to offset the fund’s expense ratio.

Though the fund is a high-cost choice in the frontier space and is exposed to specific country risks, we believe VNM is expected to generate strong returns going forward as fears are waning with the ease of inflationary pressures and narrowing trade deficit going forward (Read: Inside The Vietnam ETF).

PowerShares MENA Frontier Countries ETF (PMNA)

For a broader play on frontier markets, investors have a few options at their disposal. In the Mideast and North Africa space, PowerShares has its PMNA ETF. The fund seeks to match the performance and yield of the NASDAQ OMX Middle East North Africa index, before fees and expenses.

This benchmark provides exposure to the 46 stocks of the companies that have majority of their assets in the Middle East or North African (MENA) frontier countries, which includes Egypt, Morocco, Oman, Lebanon, Jordan, Kuwait, Bahrain, Qatar and United Arab Emirates. The ETF uses full replication of the underlying index, holding all 40 stocks in the benchmark. The largest allocations of the fund is geared towards Qatar, Kuwait, Egypt and United Arab Emirates, which makes up more than 73% of the product.

The performance of the fund depends hugely on the financial sector that makes up an enormous 70% of the assets. Additionally, investors should note that the product is relatively top heavy as it puts 55.47% of its assets in the top 10 companies. Top three holdings include Arab Bank, Qatar National Bank, and National Bank of Kuwait (Read: Top Three High Yield Financial ETFs).

The fund was initiated in June 2008 and charges higher fees of 0.70% per year after waivers compared to the category average of 0.65%. Last year, the fund generated negative returns of 22.13% as compared to its underlying index return of negative 20.80%. Year-to-date, the fund showed impressive growth, climbing to 9.13%. It also generates an excellent dividend yield of 4.26% per annum, largely thanks to the heavy banking exposure.

Guggenheim Frontier Markets ETF (FRN)

For a moral global approach to frontier market investing, investors should focus in on Guggenheim’s entrant in the space. The fund seeks to match the performance of the Bank of New York (BNY) Mellon New Frontier DR Index, before fees and expenses. The stocks of this benchmark represent countries from a variety of markets and which trade on liquid Western exchanges including the LSE, NYSE, NYSE Arca, AMEX or NASDAQ.

The BNY Mellon describes frontier market countries based on the GDP growth, per capita income growth, past and expected inflation rates, privatization of infrastructure and social inequalities. The fund invests at least 80% of its assets in the form of ADRs or GDRs and represents a sizable number of large cap firms. 

The fund uses a passive index strategy and utilizes a full replication technique, holding 39 stocks of companies in its basket. The fund focuses largely in Latin America region with financial as the top sector.  It is also concentrated from an individual security perspective as it puts around 60% of the assets in top 10 companies, including EcoPetrol, and Empresa Nacional de Electricid as some of the top holdings. (Read: Latin America ETFs: Beyond Brazil)

Initiated in June 2008 and with total assets of $136.5 million, the fund is the low cost choice in the Frontier space with expense ratio of 0.65%. Like other Frontier ETFs, FRN also underperformed with negative returns of 22.40% last year. However, it generated 17.70% returns year-to-date and has a massive 3.9% annual dividend yield. 

Frontier Market Investing Synopsis

Though most of the Frontier markets ETFs are expensive and less liquid with low market capitalizations, we recommend them over their broader emerging market cousins for long term investors based on their future growth prospects and positive macro data points. Additionally, since many of these countries receive paltry allocations in broad emerging market funds, they could also help from a diversification perspective helping to round out portfolios from a geographic standpoint for most investors.

See more about ETF investing at the Zacks ETF Center.

 
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