Investors who are looking for diversification, higher-than-average growth and lower-than-average risk might want to consider one of the most overlooked investment areas on earth: Africa.
To call the continent's market small would be an understatement.
The 53 countries that compose the African continent include emerging and frontier markets, with no single country yet considered developed. Only 24 have operational stock exchanges, and the total market capitalization of the continent is just $1.4 trillion.
A mere six open-end retail mutual funds are dedicated to African markets, according to Morningstar Inc., and the oldest and largest fund in the category, the $208 million T. Rowe Africa & Middle East Fund Ticker:(TRAMX), dates only to 2007.
The five other funds, all of which were launched last year, are managed by the boutique shops Nile Capital Management LLC and Wambia Capital Management LLC.
Although all the usual preconditions and warnings related to risk apply here, there is no denying the market's allure.
During the 10-year period through December, the African Composite Index, which includes Botswana, Egypt, Ghana, Kenya, Mauritius, Morocco, Nigeria and South Africa, produced an average annual return of 17.3%, with volatility as measured by standard deviation of 11.9%. During the same time period, the MSCI Emerging Markets Index had an annualized return of 13.2% with a standard deviation of 24.7%, while the S&P 500 produced an annualized return of -0.5%, with a standard deviation of 16.4%.
In short, Africa has produced superior returns over the past decade with lower risk.
Even without a lot of easy access points, some market analysts already have started lumping Africa in with the emerging BRIC economies of Brazil, Russia, India and China. In fact, Goldman Sachs Asset Management chairman Jim O'Neil, who is credited with coining the BRIC term, is among those who think that African nations could surpass Brazil and Russia as the next hot emerging markets.
Similar to other popular emerging and frontier economies, the forces propelling growth in Africa are commodities, consumers and infrastructure, according to Larry Seruma, manager of the 13-month-old Nile Pan Africa Fund (NAFAX).
“Africa is going to contribute significantly to global growth,” he said.
On the commodities side, the continent contains 13% of the world's oil reserves, 50% of proven gold reserves, 50% of iron ore reserves, 60% of cobalt and 90% of platinum group reserves.
Ghana, for example, started oil exploration this year, and the country is expected to see gross domestic product grow by 20% for at least the next two years before dropping down to the high teens for a number of years after that.
On the consumer and infrastructure side of the equation, population growth on the continent will double by 2040. The average age in Africa — 21, compared with 45 in developed countries — will help fuel the growing demand for goods and services relative to developed markets, which must spend more on health care and entitlements.
Part of the valuation appeal at the individual company level is due to the limited coverage of African stocks by Wall Street. Of course, the valuation disparity also can be attributed to the lower liquidity in many of the local markets.
Because Africa is so poorly covered in the media, most investors probably would be surprised to learn that there are more than 100 companies on the continent whose annual revenue exceed $1 billion. What's more, Africa is home to nine of the world's 15 fastest-growing countries.
Most African retail funds tend to concentrate on the continent's 11 largest economies, led by South Africa, Morocco, Egypt, Nigeria and Kenya. South Africa, with a total market cap of almost $1 trillion, represents the largest investment market, which is why Mr. Seruma caps his allocation to that country at 25%.
“That is the one African country most likely to be included in other emerging-markets funds,” he said.
Questions, observations, stock tips? E-mail Jeff Benjamin at email@example.com.