“Careful manager selection is crucial. Frontier markets are an inefficient asset class, and specialist managers are needed. This is still an area where there is a big pay-off to traditional fundamental techniques such as travelling to meet management and building stock valuation models,” he says.
As such, including frontier markets in a diversified growth fund or even as part of a global equities mandate is not something Samuels recommends since generalist managers will lack the resources needed to effectively cover the asset class.
“A pension fund should allocate to either a standalone frontier manager, or an emerging market/frontier market blend strategy, where the manager has dedicated frontier resources,” he says.
T Rowe Price research of Morningstar fund databases found that of the top 15 emerging market funds only eight invested in frontier countries. Further, those eight “only invested in one or two companies in one or two [ frontier] countries”, Bell says.
He adds: “There is a realisation that these [emerging markets] managers are not giving you proper broad frontier market exposure so we are starting to see [investors] allocate to dedicated funds.”
Where UK pension funds have allocated to frontier markets it is the multi-billion pound funds leading the way. The £1.38bnm Flintshire Country Council scheme has 2.5% of its overall portfolio invested, while the £1.5bn Cornwall local authority scheme invests 4.9% in frontier market funds.
It is no surprise that frontier market investment is dominated by large public pension funds since these are still open to future accrual and have both the resource and the appetite to include illiquid, ‘alternative’ asset classes. For other smaller funds to follow suit it will likely take time and proven track record before they commit, and in some cases the illiquidity and additional risk of investing in these markets will simply prove a frontier too much.
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