Benjamin Shepherd: Every investor should allocate a portion of his or her portfolio to emerging markets. Most often, the phrase “emerging markets” calls to mind the BRIC: Brazil (NYSEARCA:EWZ), Russia (NYSEARCA:RSX), India and China (NYSEARCA:FXI). But these countries have developed vibrant, reasonably well- regulated markets. They’re simply not the frontier markets they once were.
Guggenheim Frontier Markets (NYSEARCA:FRN), on the other hand, offers exposure to the next frontiers for investment, with holdings in far- flung destinations such as Kazakhstan, Nigeria and Qatar. In recent months, the exchange-traded fund (ETF) has traded at a small but persistent discount to its net asset value, reflecting the ongoing turmoil in the Middle East and concerns over flagging emerging-market growth.
A little more than 10 percent of the fund’s assets are allocated to equities in Egypt, a country that just concluded its first round of parliamentary elections following the ousting of longtime president Hosni Mubarak. Although the nation’s stock market has declined by more than 40 percent in 2011, the peaceful elections have contributed to a rally in Egyptian equities. Domestic investors drove the gains, as foreigners sold off equities amid fears that Islamist parties could dominate Egypt’s newly elected parliament. These fears appear to have been justified; the Muslim Brotherhood is expected to carry about 45 percent of the parliament’s seats.
Nevertheless, confidence among domestic investors is encouraging because they make future gains more sustainable as the political climate normalizes. However, inflation continues to rise—the first true economic challenge faced by the new government.
Chile, Colombia, Argentina and Peru account for 70 percent of the fund’s assets. Chile alone accounts for more than a third of the ETF’s portfolio. The Chilean market has come under pressure from worries about the health of the global economy; Chile’s export-based economy depends heavily on global copper demand.
Chile is an economy in transition. One of the nation’s greatest assets is its youthful population and rising household incomes. Chile is also a nation of savers, with a private savings rate of more than 21 percent of disposable income. This savings rate has buoyed the country’s economy; Chile’s debt-to-gross domestic product ratio runs at just 6 percent.
Economic transitions don’t occur overnight. But Chile’s deep trade relations with China will hold it in good stead in the interim. China is Chile’s primary export market, and recent policy shifts suggest that the mainland is ready to kick growth into high gear after years of aggressive monetary policy tightening. China recently surprised markets by cutting banks’ reserve requirement ratio by 0.5 percent, the first such move in three years.
Stronger growth from China will fuel demand for a laundry list of commodities, including copper, which Chile has in abundance.
Although there’s more volatility to come, Guggenheim Frontier Markets remains a top ETF to own.
Written By Benjamin Shepherd From Global ETF Profits Disclosure: No Positions.
Benjamin Shepherd, editor of Louis Rukeyser’s Mutual Funds and Louis Rukeyser’s Wall Street, focuses on time-tested mutual fund managers and investment strategies which have proven themselves in both bull and bear markets. He and his team spend hours every month discussing the state of the global economy and the markets with many of the best known and well-respected money managers in the industry. They then distill that wisdom and their own analysis into twelve pages of actionable advice geared towards generating returns while preserving capital for both mutual fund and stock investors. Mr. Shepherd is also associate editor of Personal Finance, one of the world’s most widely-read investment newsletters, contributing his knowledge of the fund industry to the newsletters ongoing commentary.