| LONDON, April 16
LONDON, April 16 Life may be about to get even
riskier for investors in some of the world's riskiest markets.
Investors could find it harder to use the closely watched
MSCI frontiers index to benchmark their
performance when it loses major constituents next month.
The upgrade of two large markets, the United Arab Emirates
and Qatar, to emerging market status, will cut the
number of constituents in the frontier index to 24 and give a
hefty weighting to only two - Kuwait and Nigeria.
The decision comes after MSCI frontier markets as a whole
have returned 12.5 percent this year in dollar terms, compared
with a tiny 0.3 percent rise in emerging stocks and developed
markets' 0.1 percent dip.
For GRAPHIC, see link.reuters.com/zyh97s
But those returns incorporate a wide range of performance,
from 27 percent growth in Bangladesh to a 9 percent loss in
Nigeria. Currency fluctuations may also play a part, with the
weakening naira feeding into Nigeria's dollar-based losses, for
The UAE posted returns of 35 percent and Qatar made gains of
In the short-term, market players say, investors are likely
to diverge further from the benchmark weightings to reflect more
closely their views on frontier markets, potentially opening
themselves up to underperformance against the index.
"The index becomes even more lopsided, I just do not think
it's representative (of the frontier market universe)," said
Julie Dickson, equity product manager for emerging market fund
She added that the effect would likely be relatively
short-term, however: "Eventually that will encourage MSCI to
include more frontier markets, and to upgrade some more of these
frontier markets to emerging markets."
UP AND AWAY
The existing MSCI frontiers index includes an eclectic bunch
of countries whose economies vary in size and stage of
development. It is followed by $5.5 billion in funds, compared
with $1.3 trillion for the emerging market index, but is
attracting increasing attention due to its strong performance.
Saudi Arabia and Botswana are among countries which could be
included in future, investors say, although MSCI says markets
need at least two stocks which are relatively easy for
foreigners to access before they are eligible.
By equity index providers' definitions, what is key are the
market capitalisation of the stock exchange and market
accessibility, rather than the size or wealth of the economy.
Investors are already taking positions out of line with the
weightings of the MSCI and other frontier indices compiled by
S&P, Dow Jones and FTSE. That's because the indices include
markets as diverse as Bangladesh, a poor Asian economy, and euro
zone member Slovenia, making them tough to follow.
With the departure of UAE and Qatar, Kuwait and Nigeria will
together make up nearly 50 percent of the benchmark, analysts
say, with Morocco, recently downgraded to frontier status,
becoming the third-biggest market.
Highly rated Kuwait is seen as a relatively safe investment,
and Nigeria as a more speculative play.
"Risk-on is Nigeria, risk-off is Kuwait," said Maria
Gratsova, emerging equity strategist at Citi.
"When markets are going up, it's easier to outperform the
benchmark, as Kuwait tends to be more defensive."
Nigeria has attracted attention since the recent rebasing of
its GDP to make it Africa's largest economy. But uncertainty
over elections in 2015 and the recent suspension of its
respected central bank governor have hurt Nigerian stocks.
"You can take an aggressively negative view on Nigeria but
you will be running a big risk in reference to the benchmark,"
said Bill O'Neill, head of UK investment office at UBS Wealth
But frontier market investors are used to taking on more
risk, and that includes divergence from an index.
Templeton Emerging Markets Group has $3 billion under
management in its frontiers strategy.
"The MSCI Frontier Markets Index provides a handy benchmark
for investors...but (is) not something we strictly adhere to
when making investment decisions for our portfolios," Templeton
Emerging Markets Group chairman Mark Mobius said in a blog.
(Additional reporting by Natsuko Waki)