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BlackRock Frontiers benefiting from strong earnings growth at reasonable valuations

Frontier markets remain cheap, despite considerable earnings growth
January 26, 2017

Many investors associate frontier markets with the potential for strong economic growth, but also with high risk and volatility. Frontier markets certainly have lower market capitalisations and less liquid stock exchanges than developed and emerging markets, because they are less developed than even emerging markets. However, since its launch in December 2010 BlackRock Frontiers Investment Trust (BRFI) has delivered strong returns with less volatility than both developed market and emerging market indices, according to co-manager Sam Vecht.

He reports that between December 2010 and December 2016 the trust's net asset value (NAV) return had a volatility rate of 1.5 per cent, compared with 1.9 per cent for the S&P 500 index, 2.3 per cent for the FTSE All-Share index and 2.5 per cent for MSCI Emerging Markets index. Mr Vecht says the reason for this is that while frontier market economies may be individually risky, when held within a basket the overall volatility is reduced due to the lack of correlation between countries.

That said, the trust's calendar year returns have still been fairly volatile with, for example, its share pricing soaring nearly 46 per cent in 2013, falling 1.9 per cent and 3.4 per cent in 2014 and 2015, respectively, and then surging back up 31.4 per cent last year.

Frontier markets, unlike emerging markets, were relatively insulated from the political shocks of 2016.

"Broadly, frontier market economies remain relatively closed off, having limited economic linkages to the rest of the world," says Mr Vecht. "Despite the leave vote in the UK referendum in June last year, and the outcome of the US presidential election in November, frontier markets should show a degree of resiliency during this period of increased uncertainty, given their lower correlations to the developed world.

"There is much scepticism and misunderstanding surrounding frontier markets. For example, there is no correlation between economic growth as measured by gross domestic product (GDP) and frontier countries' market performance."

There are several reasons why GDP growth does not necessarily translate into cash-flow growth for investors, such as countries having high tax regimes or corporations mismanaging their finances. So instead of only looking at the GDP growth where a company is listed, Mr Vecht and co-manager Emily Fletcher prefer to analyse the cash flow and dividend growth of the companies they are considering investing in, as well as valuations.

This focus has the added benefit of increasing the dividend paid out by the, despite the managers not actively seeking income. The trust yields 3.7 per cent and has managed to grow its dividend per share payments every year since launch.

But despite considerable earnings growth across the sector, frontier markets still remain cheap compared with emerging and developed markets. "The past 12 months have continued to demonstrate the benefits of investing in a wide, diverse asset class," explains Mr Vecht. "In most countries domestic, economic and political developments drove market returns.

"Markets such as Argentina and Bangladesh present a compelling combination of the countries with the fastest-growing GDP, the best demographic profiles, the lowest government debt and a substantial commodity endowment. It is also possible to find companies with strong cash flow and high dividend yields, on some of the lowest valuations in the world."

The trust's highest country weighting is Argentina, followed by Romania and Bangladesh. Its mandate was broadened last year to include Colombia, Egypt, Peru and the Philippines, which the managers think have high growth potential.

Although the trust's managers focus on companies' individual attributes, they still consider the wider macroeconomic picture of the country in which a company operates, and the political governance and tax regime. They will not invest in a company before they have met management at least five times, and spend much of their time visiting companies around the world. Mr Vecht claims the team totted up more than 1,200 trips last year alone.

 

BLACKROCK FRONTIERS INVESTMENT TRUST (BRFI)

PRICE:142.8pGEARING:2%
AIC SECTOR:Global Emerging MarketsNAV:136.3p
FUND TYPE:Investment trustPRICE PREMIUM TO NAV:4.7%
MARKET CAP:£235mYIELD:3.7%
SET-UP DATE:17 December 2010MORE DETAILS:blackrock.com
ONGOING CHARGE:2.39%*

Source:Winterflood Securities as at 19/01/17, *AIC including performance fee

  

Performance

Fund/benchmark6-month share price return (%)1-year share price return (%)3-year cumulative share price return (%)5-year cumulative share price return (%)
BlackRock Frontiers 165230128
Emerging markets investment trusts average9422650
MSCI Emerging Markets Free index11513229
MSCI Frontier Markets index13382769

Source: Winterflood Securities, as at 19/01/17

  

TOP 10 HOLDINGS, as at 31 December 2016 (%)

MCB Bank5.2
Mobile Telecommunications4.5
Grupo Financiero Galicia4.1
Maroc Telecom3.8
Banco Macro3.7
Square Pharmaceuticals3.5
BRD-Groupe Société Générale3.3
Halyk Savings Bank3.2
Pampa Energia3.2
Luxoft3.0

Source: BlackRock Investment Management

 

Geographic breakdown, as at 31 December 2016 (%)

Argentina15.0
Romania10.9
Bangladesh9.0
Pakistan8.9
Kazakhstan8.1
Vietnam7.6
Sri Lanka6.7
Kuwait6.6
Morocco 6.2
Ukraine6.0
Kenya5.5
Egypt3.7
Nigeria3.4
Colombia2.1
Estonia2.0
Caribbean1.9
Slovenia1.8
Turkey1.8
Philippines1.2