You may have seen the terms “frontier markets” and “emerging markets” if you’re an international investor or simply well-read. But it’s not as obvious what they really are.
Sure, you can probably guess these economies are faster-growing and generally less developed than the United States or Western Europe.
More importantly, how can they help your portfolio? Which specific countries are the best emerging markets? And what are the differences between them and frontier markets?
I should start off by saying the definition of “emerging markets” and “frontier markets” can change depending on who you ask.
For example, MSCI includes places like South Korea, Qatar, United Arab Emirates, and Taiwan as “emerging markets”. These are all among the most developed economies on the planet though.
Top five holdings of the iShares MSCI Emerging Markets fund by country. Yet two of them are developed nations.
In my opinion, that’s a great reason why you shouldn’t buy emerging/frontier market ETFs. Because They don’t even invest in the types of economies they’re named after.
However, that’s a topic for another post.
Keep reading to find out why these rapidly growing nations can help your portfolio… and whether they’re right for you at all.
What Emerging Markets Are Not
People don’t understand emerging markets very well. A few benefits most investors would attribute to emerging economies are often only true in frontier markets and vice versa.
One of those misconceptions is that emerging markets are somehow less correlated with your home nation’s economy.
Quite frankly, emerging markets won’t protect you from a recession. They might even have worse performance than other investments during a global crisis.
You can find McDonalds, Starbucks and Ikea on practically all corners of the earth nowadays. That includes almost every emerging market too. China, Turkey, and Brazil have the same modern brands you’re familiar with at home.
Because of this, a recession in the United States, Europe, or any other major economy would heavily impact emerging markets as well.
Poor international conditions mean falling business activity and declining exports around the globe. That’s especially bad for newly-industrialized nations which depend on foreign investment (FDI) and exports.
The auto manufacturing sector is one of Indonesia’s largest. What happens if Americans or Japanese stop buying cars?
It gets more confusing once you realize the terms “emerging” and “frontier markets” include a wide variety of different countries. You can’t paint dozens of economies using a wide brush.
For example, the Turkish Lira and Argentine Peso are getting crushed. Yet Thailand’s Baht has better recent performance than the Euro and Yen.
How Are Frontier Markets Different?
Frontier markets are a step below emerging markets on the developmental ladder. They often boast rapidly growing economies which rely on internal factors far more than FDI.
Think about it: McDonalds does business in Mexico and Thailand. But they aren’t in Nepal or Laos.
A side effect is that frontier economies aren’t nearly as dependent on global markets. They’re less correlated with the NASDAQ and its daily whims.
These high-growth nations commonly skip global recessions altogether. Cambodia and Vietnam are both frontier markets that haven’t entered recession for over two decades… all while growing at an average pace above 6% each year.
You shouldn’t paint all frontier markets with a broad brush either though.
Several frontier markets have a wonderful track record, business-friendly policies, and laws that are pro-foreign investment. The Philippines and Cambodia are two examples.
However, countries like Myanmar and Laos are problematic. Doing your research and knowing the best frontier markets to invest is crucial.
Over 2.2 million tourists visit Angkor Wat annually. Ticket income is also up 72% from last year.
Frontier vs. Emerging Markets
Which of these very different types of economies should you invest in? It depends on who you are, your investment goals, and your risk tolerance.
I hate finishing this article with a non-answer. It’s true though.
Both generally provide higher returns and more volatility than in developed economies. Neither is right for everyone. Yet international exposure will diversify most people’s portfolios and balance out any extra risk.
Emerging markets are better if you value convenience. Buying stocks in China or a condo in Malaysia is much easier than figuring out places like Myanmar.
Meanwhile, frontier markets are best if you want low correlation with other investments, potential for outsized returns, and don’t mind some additional work.
A big reason why frontier markets boast immense opportunities is because few people put forth the effort needed to discover them.
But that’s only a positive thing if you’re among the willing.
Large money managers spend billions on trading algorithms and well-paid staff. They’ll find any truly undervalued asset before you’re even aware it exists. As such, there aren’t many deals left on major stock exchanges.
Goldman Sachs isn’t looking at stocks in Vietnam or land in Manila though. It leaves a chance for the rest of us.
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