An underlying theme of Harmon's investments: An evolving middle class will drive frontier markets' demand for goods and services as disposable household income increases.
This has led him to investments ranging from Almacenes Exito, a Columbian retailer whose price has nearly tripled (in local currency terms) over the last four years, to Pakistani insurer Adamjee, whose stock has nearly quintupled over the last three years.
Templeton's Mobius agrees about Pakistan, seeing a huge, unpenetrated consumer market buoyed by U.S. aid. He likes Indus Motors, a joint venture with Toyota, whose stock has doubled over the past three years.
While he has been investing in exotic markets for 20 years and currently has a 5% exposure to frontier stocks, Ed Allinson, a co-portfolio manager of the $350 million Lord Abbett International Opportunities Fund, thinks the difficulties of succeeding in these evolving markets often outweigh the potential gains. He sees risks in finding local brokers to execute trades efficiently and in arranging reliable custody to channel assets into local markets and ensure proper security maintenance. Mobius and Harmon, however, don't believe this is a big problem.
Allinson is also concerned about investments exposed to government fiat. "Due diligence must continue throughout the life of an investment," he explains, "to ensure public officials haven't altered market trading rules, controls on currency or limits on foreign ownership."
He points to a Southeast Asian media company that collapsed when its station's license was pulled by the incumbent leaders after they defeated the opposition party. The station managers had backed the opposition unbeknownst to the company's foreign investors.
While the travails of Zimbabwe are well documented, Allinson says that it is easy to forget how vibrant the country was at the beginning of the 1990s. Toward the end of that decade, before the economy collapsed, the local conglomerate Delta Corporation (Zimbabwe's largest company) came to Allinson's office to attract investment after the shares' initial listing. But the fund manager balked, believing that "there were simply too many hurdles for the company to clear to justify the risk and depth of analysis necessary to invest." Today, the stock would have been worthless in dollar terms.
One way Allinson does play frontier markets is through proxy. It may be diluted exposure, but he says, "This approach offers a form of insurance that's worth gaining in exchange for some octane." One of his holdings is Orascom Telecom. Located in Egypt, which some investors consider an emerging market, the company has an exclusive license in the nascent North Korean market. Another holding is South African telecom MTN, a key service provider for much of Africa and the Middle East. Meanwhile, he also owns Danish brewer Carlsberg, which bought Cambodia's largest brewery, Angkor, providing the Danes access to a very fast-growing industry in Southeast Asia.
On occasion, Allinson also makes an educated speculation. Case in point: Kazakhstan energy explorer and developer Max Petroleum. He moved into this microcap in January via London's AIM market after shares tumbled nearly 75% because of problems stemming from the company's former management. The firm has no earnings and will be racking up expenses as it prepares to drill more than 50 wells. But what it does have, according to Allinson, is license to access potentially fertile ground. It also has a management team made up of ex-U.S. corporate energy executives, including a CEO that came from Texaco, who likely would not have signed on if it weren't a legitimate operation.
Julian Thompson, who manages the top-performing Threadneedle Emerging Markets Fund, with $748 million in assets, largely sidesteps frontier plays because he doesn't believe high economic growth rates necessarily translate into substantial market returns. He points to China during the decade between 1995 and 2005 when it was the fastest growing emerging market economy but registered the second-lowest returns.
But he has considered certain frontier plays. Recently, he looked into Halyk Bank in Kazakhstan. "This is a well-managed financial that should benefit near term from global demand for the country's energy resources and an evolving consumer class," Thompson observes. Still, he was turned off by the bank's expanding imbalance between deposits and loans.