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Asia Frontier Capital (AFC) - June 2018

How does investing in Asian frontier markets improve portfolio returns and reduce overall volatility? Read AFC's monthly newsletter
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“Fundamentally cheap stocks are often held in low regard by market participants. Something may be tainting their perception in investors' minds.”

- Kenneth Fisher, American Businessman and Investor



AFC Funds Performance Summary



AFC Asia Frontier Fund USD A1,521.13-2.7%-10.9%+52.1%
AFC Asia Frontier Fund (LUX) USD A821.10-2.9%-16.6%+43.4%2
AFC Frontier Asia Adjusted Index3 -4.2%-5.0%+30.3%
AFC Iraq Fund664.67-2.5%+17.1%-33.5%
Rabee RSISX Index (in USD) -3.5%-0.6%-43.7%
AFC Vietnam Fund1,800.40-0.1%-2.9%+80.0%
Ho Chi Minh City VN Index (in USD) -1.6%-3.3%+73.9%
  1. The NAV given is for the main share series for the relevant master fund. Investor’s holdings may be in a different share class or series or currency and have a different NAV. See the factsheets and/or your statement for full details.
    NAV and performance figures are all net of fees.
  2. The return is based on the performance of the AFC Asia Frontier Fund USD A prior to 1st December 2017 and the net return of the AFC Asia Frontier Fund (LUX) USD A after its launch on 1st December 2017.
  3. The index was adjusted since 1st June 2017. Prior to that it reflects 100% of the MSCI Frontier Markets Asia Net Total Return USD Index, and after 1st June 2017 it is 37% of that index and 63% of the Karachi Stock Exchange 100 index in USD.

The performance of frontier and emerging markets over the last few months has been weak. Two key themes are impacting investor sentiment. The first is the rising U.S. Dollar due to the Fed raising rates at a faster clip than expected, and the second is fear over the U.S.-China trade war. The rising U.S. Dollar has already had a big negative impact on certain frontier and emerging currencies such as the Argentinian Peso, Brazilian Real, Philippine Peso, South African Rand and Turkish Lira, while currencies within our universe have also faced some pressure but to a much more modest extent. The currency pressure within our universe is due to the fact that most of these countries are net oil importers combined with a current account deficit. Additionally, Mongolia, Pakistan, and Sri Lanka have large external U.S. Dollar debts as well as large current account deficits and these markets have either seen a devaluation of their currency already (Pakistan), have corrected and/or are trading at a big discount to other frontier and emerging markets (Pakistan, Sri Lanka) and/or are going through an IMF-led reform process (Mongolia and Sri Lanka).

The other major fear is the U.S.-China trade war and its impact on other exporting countries. Within our universe, Bangladesh and Vietnam are the two countries which are most dependent on exports to the U.S. The shift of higher cost jobs from China moving to lower cost destinations like Bangladesh, Cambodia, Myanmar, and Vietnam has been well underway since before the trade war between the U.S. and China cropped up, though further pressure on Chinese exports to the U.S. could only lead to an increased shift of lower end manufacturing jobs moving to these countries. Furthermore, exports from Bangladesh and Vietnam to the U.S. are either low-end such as garments and textiles or low-tech electronic items and these goods do not seem to have come under U.S. scrutiny yet. However, though the U.S. has its sixth largest trade deficit with Vietnam, there has not been any major concern raised by the U.S. due to the low value nature of these goods as mentioned above and also probably because of closer geopolitical relations between the U.S. and Vietnam given the South China Sea issues.

Frontier and emerging markets have experienced similar investor fears in the past, especially over currencies. For example, in June 2013, the Fed announced plans to end its soft monetary stance and in August 2015, the Renminbi depreciated against the US Dollar. We believe that these incidents of widespread selloffs only create long-term buying opportunities as Asian frontier markets in particular are growing their economies from a very low base, have favourable demographics, and are attracting low cost manufacturing jobs, while also benefiting from China’s Belt and Road Initiative. More importantly, valuations across Asian frontier stock markets are very attractive, especially in Pakistan and Sri Lanka, while valuations of certain large cap companies in Vietnam have also become reasonable and/or attractive, while mid and small cap valuations in Vietnam continue to remain very attractive in our view.

Even though most markets within our universe have been negatively impacted in the past few months, the long-term correlations of Asian frontier markets with developed markets continue to be very low and markets such as Bangladesh even have a negative correlation (-0.22) with the MSCI World Index. With the current uncertainties in the markets, we strongly believe that now is an opportune time to invest in Asian frontier markets with a 3-5 year time horizon given their continued industrialization, rising middle class, and improving infrastructure backed by attractive valuations and low correlations. Asian frontier markets are in a similar phase of growth as China was 15-20 years ago in terms of per capita GDP, consumption trends, and urbanisation so we are convinced that the current market turmoil is an opportunity to gain exposure to these growth markets as our visits on the ground paint a completely different picture from all the gloom and doom being reported in the media. To know more about why we are positive on Asian frontier markets you can view this presentation.


(Source: Asia Frontier Capital, Bloomberg)



(Source: Bloomberg, based on 5 years monthly return data)


The AFC Asia Frontier Fund lost −2.7% in June, outperforming the MSCI Frontier Markets Index, which lost −3.5%, and the AFC Frontier Asia Adjusted Index, which lost -4.2%, and the fund is now up +52.1% since inception which corresponds to an annualized return of +6.9% p.a. since inception.

The AFC Iraq Fund lost −2.5% in June, outperforming its benchmark, the Rabee USD index, which lost −3.5%. Year to date the fund has rallied by +17.1%, outperforming the benchmark index by 17.7%, signalling the long-awaited recovery for the Iraqi equity market after a decline of −68% from the peak in early 2014 until the bottom in May 2016.

The AFC Vietnam Fund lost −0.1% in June, outperforming the VN-Index in USD terms which lost −1.6%. The fund is now up +80.0% since inception, representing an impressive annualized return of +13.9% p.a.

If you have any questions about our funds or would like to receive additional information, please be in touch with our team at This email address is being protected from spambots. You need JavaScript enabled to view it..


Upcoming AFC Travel

Thomas Hugger, Ruchir Desai, and Peter de Vries are based in Hong Kong, while Andreas Vogelsanger is based in Bangkok and Ahmed Tabaqchali in London. If you have an interest in meeting with our team at their homeports or during their travels, please contact Peter de Vries at This email address is being protected from spambots. You need JavaScript enabled to view it..


Yangon, Myanmar 

1st July – 31st August

 Scott Osheroff

16th July

 Andreas Vogelsanger & Thomas Hugger
Hong Kong 

14th – 24th August

 Andreas Vogelsanger

AFC Asia Frontier Fund - Manager Comment


The AFC Asia Frontier Fund (AAFF) USD A-shares declined −2.7% in June 2018. The fund underperformed the MSCI Frontier Markets Asia Net Total Return USD Index (+0.3%) but outperformed the MSCI Frontier Markets Net Total Return USD Index (−3.5%) and the AFC Frontier Asia Adjusted Index (−4.2%), while underperforming the MSCI World Net Total Return USD Index, which was flat for the month. The performance of the AFC Asia Frontier Fund A-shares since inception on 31st March 2012 now stands at +52.1% versus the AFC Frontier Asia Adjusted Index, which is up +30.3% during the same time period. The fund’s annualized performance since inception is +6.94% p.a. The broad diversification of the fund’s portfolio has resulted in lower risk with an annualised volatility of 9.15%, a Sharpe ratio of 0.72 and a correlation of the fund versus the MSCI World Net Total Return USD Index of 0.33, all based on monthly observations since inception.

Investor sentiment continued to remain weak this month on the back of trade tensions between the U.S. and China, while worries over a stronger U.S. dollar and its impact on emerging and frontier currencies continued to play out with the U.S. Fed expected to quicken its rate of interest rate hikes this year. Furthermore, weakness in the Renminbi over the past month also hurt frontier and emerging market sentiment similar to the second half of 2015, while the worries over rising U.S. interest rates are having a similar impact on sentiment as compared to June 2013. So far this year, besides the Pakistani Rupee which has depreciated by 10% and which was expected, most currencies in our universe have not seen a significant depreciation, unlike some other frontier and emerging currencies such as the Argentinian Peso, Brazilian Real, Philippine Peso, South African Rand, and Turkish Lira. Though some countries within our universe such as Mongolia, Pakistan, and Sri Lanka have large external U.S. Dollar debt positions as well as large current account deficits, these markets have either seen a devaluation of their currency already (Pakistan), have corrected and/or are cheap (Pakistan, Sri Lanka), and/or are going through an IMF-led reform process (Mongolia and Sri Lanka).

The Vietnamese market remained soft as large cap stocks continued their correction from the previous two months given that their valuations were beginning to look stretched by the end of 1Q18 as was discussed in previous manager comments. The recent correction, however, is making valuations of certain large cap companies more reasonable. Despite the market weakness, the fund’s Vietnamese holdings did well relative to the market and ended the month in positive territory due to good monthly returns from an industrial construction contractor, an insurance company with a strong position in the auto insurance segment, a cargo handling company operating in a duopoly structure at the Ho Chi Minh City airport, and an airport operator which has a near monopoly in the country. All of these names are neither in the fund’s benchmark nor in the large cap VN30 Index which reflects the fund’s benchmark agnostic approach.

On the macro front, 2Q18 GDP growth of 6.8% reflects the momentum in the manufacturing sector which grew by 12% YoY and strong consumer sentiment which helped retail sales increase by 8.7%, while foreign direct investment grew by 8.4% in the first half of 2018 to USD 8.4 billion. These numbers continue to suggest that the country is benefiting from positioning itself as a manufacturing hub due to lower labor costs as well as its large and young workforce. Trade war worries did not impact exports as they have grown by 16% YoY so far this year, leading to a heathy current account surplus. Though the U.S. has its sixth largest trade deficit with Vietnam, there has not been much pressure from the U.S. on this issue as most goods exported to the U.S. from Vietnam are garments, textiles and electronics which are still low tech or low-end goods which do not appear to face a trade barrier at this point in time. Furthermore, both countries appear to be building closer geopolitical relations and therefore any major trade barriers to Vietnamese exports to the U.S. would be a surprise.

Vietnam is also witnessing significant growth rates in inbound international travelers, which grew by 27% in the first half of the year to 7.9 million. Asian travelers are the fastest growing segment and account for the majority of arrivals into the country with China and South Korea being the two largest contributors. As infrastructure improves and there is greater air connectivity to Vietnam, especially from other Asian countries, companies linked to tourism should continue to do well and hence the fund’s investment in an airport operator.

The Pakistani Rupee (PKR) depreciated by 5% last month and this was not surprising given the rising current account deficit and a drop in foreign exchange reserves. The PKR has depreciated by 10% this year and by 15% since December 2017. Currency weakness along with higher crude oil prices is expected to lead to a pickup in inflation later this year and further interest rate increases from the State Bank of Pakistan can be expected. National elections are due on 25th July and this should provide some clarity on the country’s outlook as the fund has reduced its exposure to Pakistan over the past two quarters. As of writing, the former Prime Minister Nawaz Sharif was given a ten-year sentence due to the Panama Papers issue and this judgement has only increased the chances of victory for the Imran Khan-led opposition party, PTI. A PTI victory will be a near term positive for the market as this political uncertainty would be over, but in all likelihood the next government will be coalition led which could lead to uncertainty over policy making. However, valuations in Pakistan appear to be bottoming and are now very attractive. We will watch the moves made by the next government and adjust our exposure to Pakistan accordingly.

The Bangladeshi Finance Minister announced the annual budget which had no major triggers for the stock market while certain measures will be positive for the fund’s holdings. Foreign and local tobacco brands will now have similar pricing and duties in the low-end segment while previously local brands could sell at a lower price with lower duties. Local brands will no longer have this advantage and this equality in pricing and duties should benefit foreign tobacco companies due to their better-established brands. The fund holds the leading foreign tobacco player in Bangladesh. Custom duties were also reduced on inputs required to assemble and manufacture consumer appliances and this should benefit the leading consumer appliance company in Bangladesh which the fund also holds. Though the government plans to reduce corporate tax rates on financial institutions by 2.5%, the benefit of this could be negated by the pressure on banks and non-banking financial institutions to reduce their spreads, as was discussed in last month’s manager comment.

The fund invested in a mining company listed in Australia whose asset is based in Myanmar and this asset could have one of the better polymetallic deposits globally which could lead to major upside for this company as the project is located close to the border with China and has access to processing and logistics infrastructure. Similar mines to this have commanded significantly higher valuations than the valuation that this company is trading at.

The best performing indexes in the AAFF universe in June were Bangladesh (+1.2%), Cambodia (+0.5%), and Mongolia (−0.3%). The poorest performing markets were Kazakhstan (−3.6%) and Iraq (−3.5%). The top-performing portfolio stocks this month were: a junior mining company in Mongolia (+50.0%), a Vietnamese cargo handling company (+22.9%), a Vietnamese insurance company (+19.2%), a Vietnamese beverage company (+17.9) and a Vietnamese industrial construction company (+16.9%).

In June, we added to existing positions in Mongolia, Myanmar, and Vietnam. We partially sold two companies each in Mongolia and Vietnam.

As of 30th June 2018, the portfolio was invested in 106 companies, 1 fund and held 7.1% in cash. The two biggest stock positions were a pharmaceutical company in Bangladesh (7.2%) and a pump manufacturer from Vietnam (4.2%). The countries with the largest asset allocation include Vietnam (26.0%), Bangladesh (18.4%), and Mongolia (16.2%). The sectors with the largest allocations of assets are consumer goods (28.5%) and industrials (17.6%). The estimated weighted average trailing portfolio P/E ratio (only companies with profit) was 13.13x, the estimated weighted average P/B ratio was 2.56x, and the estimated portfolio dividend yield was 3.54%.


AFC Iraq Fund - Manager Comment


The AFC Iraq Fund Class D shares returned −2.5% in June with a NAV of USD 664.67 which is an out-performance versus its benchmark, the RSISUSD index, which lost −3.5%. Year to date the AFC Iraq Fund Class D shares are up +17.1% vs −0.6% for the RSISUSD index.

Activity in the economy at large, and the market in particular, came to a virtual standstill at the start of the month as it coincided with last two weeks of Ramadan which ended with the Eid holidays in the middle of June. The start of the summer heat in earnest further contributed to the slowdown of activity. However, the intense focus on the political activity around the election results took the spotlight over the major markers of economic recovery and the banks’ leverage to it.


Average minimum and maximum temperatures in Baghdad in degrees centigrade

(Source: World weather and climate Information)


The elections produced winners and losers who will eventually form a coalition government as reported last month, a process that should take a few weeks but could extend to a few months. Claims of fraud surfaced as in past elections, however this time there was an unusual action by parliament to force a manual recount of the whole vote and a wholesale annulment of certain types of votes (overseas, IDP’s and security forces votes). The parliament’s action was due to investigations that suggested that fraud was made possible by hacking the electronic readers of the ballot papers – introduced for the first time this year.

The potential disruption could have resulted in a delayed government formation until early 2019. However, objections to parliament’s action were raised to the Supreme Federal Court, whose ruling on 21st June was a master class response to the conflicting political reactions following the elections. The ruling provided a framework for a workable compromise as evidenced by its wholesale acceptance by all of Iraq’s political parties.

The ruling is discussed in a recent article: in a nutshell it led to a manual recount of only those election centres whose results were disputed, and thus should be concluded in a few weeks. The impact will likely be felt in a changed balance of power among the Kurdish parties and among some Sunni parties, but ultimately will not significantly change the balance of power of the main election winners. The process of government formation continued unabated during this period and the broad outlines of it are taking shape.

However, irrespective of how the upcoming government is formed, it would need to address the issues at the heart of the 2015 protest movement that had such a profound effect on how the election was fought and its results. These would be the provision of services and reconstruction, which require much needed overdue investments in the country’s infrastructure and the reconstruction of the liberated areas, estimated at USD 88bn over five years.

Prevailing negative perceptions of Iraq’s ability to fund this have not reflected the transformative effects of higher oil prices and the end of conflict on Iraq’s ability to self-fund the reconstruction of the whole country. These were discussed in detail in a recent article, the highlights of which are: by the end of 2018, based on realized oil prices of 2017 and average year-to-date for 2018, Iraq is on its way to have a cumulative two-year budget surplus of USD 18.8bn instead of the initially projected cumulative deficit of USD 19.4bn. This would be equal to a stimulus of 14.5% of non-oil GDP once reconstruction projects are underway, thus further accelerating economic activity. The effects of this stimulus would be enhanced by a potential budget surplus of USD 9.3bn in 2019 or a further 6.8% stimulus to non-oil GDP.

The stock market’s action in June was a continuation of the same trends discussed here over the last few months. Average daily turnover was among the lowest of the last three years and most stocks. In particular, the banks continued to decline.

The market’s focus continues to be the effects of the shrinking FX margins on banks’ earnings brought on, paradoxically, by the increasing signs of an improvement in liquidity in the broader economy. These were brought by the steady increases in the market price of the Iraqi Dinar (IQD) versus the US Dollar, lowering its premium over the official exchange rate to 1.2% - the lowest point in a number of years from just under 6% at the end of 2017 and 10% at the end of 2016. FX spreads are one of many sources of revenues for the higher quality banks but constitute the bulk of earnings for the lower quality banks. However, almost all banks were caught in the group’s sell-off which accelerated in recent months.

However, valid as these concerns are, they fail to take into account the transformative effects of the expected budget surpluses of USD 28.5bn for 2017-2019 on the banks’ future earnings through the simulative effects the surpluses would have on economic activity. This same leverage worked in reverse during the double whammy of the ISIS conflict and the collapse in oil prices as government finances were crushed by soaring expenses and plummeting revenues.

The government resorted to dramatic cuts to expenditures by cancelling capital spending and investments which, due to the centrality of its role in the economy, led to year-on-year declines in non-oil GDP of -3.9%, -9.6% and -8.1% for 2014, 2015 and 2016 respectively. Ultimately, the government had a cumulative deficit of around USD 41bn during this period and accumulated significant arrears to the private sector in the process. The outstanding arrears are estimated by the IMF to be at USD 3.6bn as the end of 2017.

The effects were disastrous for private sector businesses at the receiving end of the cuts whose finances deteriorated, and which in turn affected the quality of bank loans as these businesses accounted for the bulk of bank lending.  As a result, the banks’ earning suffered from the increasing non-performing loans (NPL’s) coupled with negative loan growth, as well as from declining/negative deposit growth.

The changes for the worse for the banks during these years can be seen through the three charts below that look at loans/NPL’s, deposits, and trade finance and their association with budget surpluses/deficits. The charts consider only loans/NPL’s, deposits and trade finance for the private sector but not those for the government as they are conducted through state banks.


Loans and NPL’s 2010-2017

(Source: Central Bank of Iraq (CBI), Asia Frontier Capital (AFC))


Loan growth peaked in 2015 after slowing in the prior year and has declined since, while NPL’s soared in 2015-2016 as the effects of the capital spending cuts fed through to deteriorating loan quality. These negative effects were made worse by a flight to safety as more of the private sector borrowed from state banks instead, in the process increasing their share from 59% to 63% of all private sector lending. The ultimate effects of budget surpluses and deficits on loan growth and quality can also be seen from the above chart.


Deposits 2010-2017

(Source: Central Bank of Iraq (CBI), Asia Frontier Capital (AFC))


The same story is repeated with private sector deposits which for commercial banks peaked in 2013 and declined since then. The flight to quality was again evident in the slower decline in total deposit growth and its pick-up in 2017 as the expansionary effects of the recovery in oil prices and the ending of conflict were being felt. In the process, the state banks increased their share of total private sector deposits from 61% to 68%.


Trade Finance 2010-2017

(Source: Central Bank of Iraq (CBI), Asia Frontier Capital (AFC))


The only area where commercial banks increased their share was that of trade finance for the private sector - increasing from 71% to 87%. However, trade finance suffered significantly in this period as trade declined due to investment cuts and the slowdown in consumer spending. This further hurt the commercial banks as it was a major source of revenues and growth.

Its logical to conclude that the sea change which has taken place in the government’s financial health would reverse the trends seen in the charts above as the significant stimuli to non-oil GDP should lead to sustainable economic activity, providing room for the banks to recover and grow again.

It should be noted that these are aggregate figures for the whole sector which hide significant variations in the performance of individual banks. The pains of 2014-2017, including the recent pressure on FX margins, would have exposed the structural weaknesses of many of the banks and will likely lead to failures among the weaker ones. However, the stronger banks that weathered the storm and addressed any structural weaknesses should benefit disproportionally from the expected benefits from a recovering economy.

Risk remains a constant issue in Iraq, yet for well-informed long-term investors this continues to underscore the opportunity to acquire attractive assets that have yet to discount a sustainable economic recovery.

As of 30th June 2018, the AFC Iraq Fund was invested in 14 names and held 2.6% in cash. The fund invests in both local and foreign listed companies that have the majority of their business activities in Iraq. The markets with the largest asset allocation were Iraq (96.1%), Norway (3.0%), and the UK (0.9%). The sectors with the largest allocation of assets were financials (47.9%) and consumer staples (21.7%). The estimated trailing median portfolio P/E ratio was 12.91x, the estimated trailing weighted average P/B ratio was 0.88x, and the estimated portfolio dividend yield was 4.9%.



AFC Vietnam Fund - Manager Comment


The AFC Vietnam Fund lost −0.1% in June with a NAV of USD 1,800.40, bringing the return since inception to +80.0%. This represents an annualised return of +13.9% p.a. The Ho Chi Minh City VN Index in USD lost −1.6%, while the Hanoi VH Index lost −8.1% (in USD terms). The broad diversification of the fund’s portfolio resulted in a low annualized volatility of 8.78%, a high Sharpe ratio of 1.51, and a low correlation of the fund versus the MSCI World Index USD of 0.25, all based on monthly observations.

For another month the heaviest weighted stock in the VN-Index, VinGroup, with a weighting of around 12%, had a +1.5% positive contribution to the benchmark index in HCMC, lowering the overall negative index performance. Though, with the rest of the market suffering for the third month in a row, the indices lost −1.1% in HCMC and −7.6% in Hanoi. Volatility was also felt in most parts of the mid-cap segment which gained 7% at the beginning of the month but ended it down with a loss of -4%. We saw selected interest in our portfolio which resulted in a small gain of +0.3% in local currency while the Vietnamese Dong was weaker by −0.6%.

Market Developments

With almost all indices down around -20% in the second quarter of 2018, we have to look forward as to what to expect for the second half of the year. One thing we know for certain is that the current pace of the decline is unsustainable. With the Hanoi index losing around 10 points per month since the end of March, it would hit zero in the spring of 2019 which of course is complete nonsense. Broad declines and pessimism currently make us more optimistic that we have seen the bigger part of the long-expected correction in most market segments.

Hanoi Index Nov 2013 – June 2018

(Source: Bloomberg)


Locals are the dominant players in the market, intensifying the swings in both directions, regardless of foreign flows. An example to prove this thesis are stocks which are heavily weighted in the index but practically not traded by foreigners as their foreign ownership limits have been reached and no foreigners are willing to sell. Such a stock is Asia Commercial Bank (ACB). With a weighting of 20%, it is by far the biggest contributor to the Hanoi Index. The volatility is enormous as can be seen in the chart below, with zero participation of foreign investors.


Asia Commercial Bank (ACB) April 2017 – June 2018

(Source: Bloomberg)


Our long-term followers may remember when we pointed out the possible outperformance of emerging markets after years of low returns. What followed was an impressive 18-month bull run with gains of 50%.


MSCI Emerging Markets Index 26/06/2016 – 26/06/2018

(Source: Bloomberg)


The ongoing correction which started in early 2018 is technically speaking only a correction of previous medium-term gains. While the normalization of the US interest rate environment should not come as a surprise, as it was widely expected and has been talked about for years, market commentators and analysts always (really always!) point out how bad rising US interest rates are for emerging markets. While short term rates have been climbing since the end of 2015 from unsustainable and historically unseen levels of practically 0%, the lows in the US ten-year government bond yield were seen in summer of 2012 and 2016 (2 and 6 years ago)! The strong performance of emerging markets therefore took place exactly after US rates turned and starting rising.



MSCI Emerging Markets Index and 10 year T Note Yield

(Source: Bloomberg)


If people would take the time to compare the long-time relationship between the MSCI Emerging Markets Index and the yield of the US 10-year bond yield, they would see exactly as we do in the chart above that there were just a few short periods where rising bond yields really resulted in weakness in emerging markets. Over the last 10 years there seems to even be a positive correlation which is the opposite of what experts talk about. Correlations between asset classes are very different compared to past economic cycles since the financial crisis 10 years ago.

In our last mid-month report, we mentioned the very diverse performance of emerging markets in general in 2018, as it is absurd to lump all of these countries together with their very different macroeconomic stories and geographic locations. While some emerging markets like Argentina, Brazil, Turkey, etc. are in the spotlight for good reasons, their contribution to the global economy is rather limited. Currently 7 out of the top 10 holdings of the Emerging Markets ETF (EEM) are Chinese companies, with China alone contributing almost one third of the total weighting in the MSCI Emerging Market Index, doubling over the past 10 years. Asia has been the driver of global economic growth over the past 20 years and it will continue to be so for many years to come.


Emerging Markets Indices - 1 Jan 2018 – 29 June 2018

(Source: Bloomberg)


While Vietnam is still categorized as a Frontier Market, some investors have been hoping that an upgrade to the much larger investment pool of Emerging Markets could soon take place. Unfortunately, we believe that Vietnam still needs improvements in issues such as foreign ownership constraints, flow of information, and equal rights for foreign and local investors before it might be considered for an upgrade.

Instead of Vietnam, crisis-ridden Argentina will be included in the EM index from June 2019, and Frontier Market heavyweight Kuwait (with a current weight of around 18%) will be added to the watchlist for a potential upgrade. Meanwhile, Saudi Arabia will leapfrog Frontier Market status, going directly to Emerging Market status, but it will join in several stages between March 2019 and December 2019 – we think the government must have made more positive decisions than just allowing female drivers on their roads.

This could in fact result in a substantial upgrade in the weighting of Vietnam in the Frontier Index, from around 15% at present to 25-30%. On the other hand, the Frontier Market segment could become less attractive due to fewer meaningful countries being part of it. Nevertheless, it is a great opportunity for long-term investors to accumulate some of the many undervalued Vietnamese stocks around as an upgrade of Vietnam is more a question of “when” rather than “if”.



Market Capitalization

Vietnam Weight

MSCI Emerging market

USD 5.27 tn

32 bps *

MSCI Frontier market

USD 117 bn


MSCI Vietnam

USD 17 bn


 * Hypothetical assumption, assuming Vietnam’s inclusion

(Source: MSCI, VCSC estimates)


Impact of trade war between US and China to Vietnam economy

The trade war between the two largest economies in the world, USA and China, has officially started. President Donald Trump signed a decision to increase tariffs on USD 200 billion of goods from China which was officially applied on 6th July. On the same day China responded by announcing new tariffs on USD 50 billion of US goods, mostly agricultural products which would directly hit Trump’s voting base. China and USA are two of the largest trading partners of Vietnam and this trade war may hence influence the Vietnamese economy to a certain extent.


Vietnamese Exports to China in 2017 (USD billion)

(Source: GSO, AFC Research)


Vietnamese Exports to the US in 2017 (USD billion)

(Source: GSO, AFC Research)


Positive impacts

  • Mobile phone and chip exports to US can be shifted from China to Vietnam

These new US tariffs are applied on high-tech products, such as mobile phones and chips. Mobile phones and chips from China will face obstacles to access the US market when a 25% tax rate will be levied. Samsung, the largest mobile phone and chip maker in the world, has factories in both China and Vietnam and might therefore increase production capacity in Vietnam in order to avoid tariffs.

Samsung is also the largest chip maker in the world and may also consider opening a chip factory in Vietnam. Intel Corp, the second largest chip maker in the world, might accelerate its production shift from China to Vietnam as well.

  • Cheaper imports from US, higher exports to China

China’s retaliation on US tariffs included a 25% tariff on 659 U.S. goods, mostly agricultural products. This could lead to higher agricultural exports from Vietnam to China.


Agricultural products exported to China in 2017 (USD billion)

(Source: GSO, AFC Research)


On the other hand, Vietnam may benefit from cheaper imports from China due to price pressures when US tariffs are applied on Chinese exports such as machinery, materials, mobiles, electronic products etc.

Negative impacts

  • Global economic growth slowdown

The current impact on economic growth rates due to the new Chinese and US tariffs are still quite small, but there is of course the risk that this trade war could escalate and hence also affect the growth of the global economy.


Largest trading partners of Vietnam in 2017 (USD billion)

(Source: GSO, AFC Research)



  • China’s production shift to Vietnam

In order to avoid US tariffs, Chinese manufacturers may shift their production to Vietnam. However, this could potentially affect Vietnam negatively if in the future the US applies tariffs to Chinese exporters operating in Vietnam.



(Source: GSO, AFC Research)


GDP growth in the first half of 2018 was at 7.08%, the highest level since 2011. Vietnam is one of the fastest growing countries in the region.

FDI disbursement reached USD 8.37 billion, a gain of 8.4% compared to same period last year.

CPI surged upward in June 2018 to 4.67%, due to higher food prices.

Exports continue to grow strongly at 16% to USD 113.93 billion, compared to import growth of 10% to USD 111.22 billion, leading to a trade surplus of USD 2.71 billion.

At the end of June 2018, the fund’s largest positions were: Sametel Corporation (3.9%) – a manufacturer of electrical and telecom equipment, Agriculture Bank Insurance JSC (3.6%) – an insurance company, Global Electrical Technology Corporation (2.5%) – an electrical equipment company, Vietnam Container Shipping JSC (2.4%) – a container port management company, and Cantho Pesticides JSC (2.1%) – a manufacturer of agricultural chemicals.

The portfolio was invested in 73 names and held 4.3% in cash. The sectors with the largest allocation of assets were industrials (32.1%) and consumer goods (31.0%). The fund’s estimated weighted average trailing P/E ratio was 9.58x, the estimated weighted average P/B ratio was 1.59x and the estimated portfolio dividend yield was 7.32%.



AFC Travel Report - Kazakhstan

In line with our process of being on the ground in the countries we invest in, Scott Osheroff and Ruchir Desai travelled to Kazakhstan to meet with companies and attend the Astana Economic Forum. All photos are by Asia Frontier Capital.

Flying into Nursultan Nazarbayev International Airport in Astana, Kazakhstan’s remote capital city, a strong gust of wind caught the plane making for a rather interesting final approach. This is an all too common occurrence as the city sits on the open steppe and is famous for its robust winds and freezing winters, though it ensured a clear day as peering out the window, the green steppe was emerging from the final patches of snowpack as spring had arrived.

We were visiting Kazakhstan for the first time, there to learn about the country and its prospective investment opportunities as it is the largest and most advanced of the Central Asian economies. Though what was interesting was the lack of connectivity to the country, with most major Asian airlines not yet flying to Kazakhstan, except Air China. However, the flag carrier, Air Astana, has regular flights to Beijing, Bangkok, Dubai, Hong Kong, New Delhi and Kuala Lumpur.

Having arrived in Astana on the weekend was as good an excuse as any to explore what is certainly up there among the most eccentric capital cities in the world. Astana was founded in 1997 by Kazakhstan’s first and only president in the post-Soviet era, Nursultan Nazarbayev, who turned a small village town on the open steppe where the winters often reach −60 Celsius into a mini metropolis of one million people. The city is an architect’s dream as the design of the city’s buildings are as diverse as the countries in the United Nations and it is expanding rapidly. It’s a sight to be seen, at least once.


Construction activity continues in Astana


The downtown core is host to a wide array of architecture including the largest tent structure in the world (the Khan Shatyr shopping mall), the Baiterek Tower which is designed around a Kazakh folktale about a magical bird, Samruk, which laid a golden egg atop a mythical poplar tree, while in the area of town nearer to the airport is the recently opened Astana International Financial Centre (AIFC) which is intended by the government to become a regional domicile for foreign companies. It will also host its own stock exchange, the Astana International Exchange (AIX).


Downtown Astana



Khan Shatyr Shopping Mall


Downtown Astana


In town for a conference, as the work week started we met several government agencies including the AIFC, Samruk Kazyna (Kazakhstan’s sovereign wealth fund), and the Ministry of Finance.

Our first meeting was with the AIFC which officially opened on 1st January 2018. The concept is to offer local and foreign companies the opportunity to domicile themselves within the AIFC’s boundary where there are 50-year tax breaks, no foreign ownership restrictions, etc. However, what was interesting is that in the 21st Century digital economy in which we live, companies incorporated in the AIFC are required to have a physical office location in Astana with employees in the office. Perhaps that partially explains why four months after the opening of the AIFC there were only 12 registered companies.

More exciting than domiciling a company at the AIFC is the AIX, as the stock exchange has settlement with EUROCLEAR which means foreigners can add significant liquidity to the market once there are IPO’s, something our following meetings in Astana addressed.

Meeting both Samruk Kazyna and the Ministry of Finance, the government, after the collapse in oil prices in 2014 which hurt the economy, decided to initiate a privatization program to sell down its interests in over 900 companies. This is an effort to reduce government participation in the economy, now estimated at approximately 70% of GDP. While most of these companies will be privatized through an auction system, Samruk Kazyna intends to take public and possibly even dual list the biggest state-owned enterprises, Kazatomprom (the world’s largest uranium miner), Air Astana (the national airline), KazMunayGaz (an oil and gas company), Kazakhstan Temir Zholy (the national rail operator) and Kaz Post. These companies are very interesting to us and we are looking forward to further news about their upcoming IPO’s which are scheduled to occur before 2020.

As part of the trip to Astana we attended the Astana Economic Forum, an annual event which brings together participants from diverse areas of business, politics and academics. This year’s keynote speakers were the President of Kazakhstan, Nursultan Nazarbayev, former UN Secretary General, Ban Ki-moon, and the former President of France, Francois Hollande. The forum was held at the Hilton and the Expo Congress Centre both of which are part of the Expo-2017 exhibition complex and have since been incorporated into the AIFC. This complex with futuristic designs was developed in the run up to the Expo-2017 held in Astana between June and September 2017.


Architecture within the Expo complex


After our visit to Astana, we flew to Almaty to meet with private sector participants and learn more about the country.

Our first meeting in the very charming city of Almaty, which was reminiscent of a blend of Paris and an ex-Soviet city, was with a macro-analyst who is not only tuned in to the country, but also the region. We discussed for several hours the impact on Kazakhstan from sanctions on Russia (as Russia is Kazakhstan’s largest trading partner), the collapse in oil prices and the fact that the country is yet to fully recover from this slump, most notably in the banking sector, where NPL’s are still high, though improving.



The Zailiyskiy Alatau mountain range in Almaty on the border with Kyrgyzstan


The economy has recovered to some extent and the macro economic situation has stabilized especially after the increase in oil prices over the past year. Kazakhstan’s overall foreign exchange reserves (including the oil fund) reached USD 90 billion at the end of 1Q18 leading to greater currency stability, while industrial production and loan growth have also shown an improvement over the past few quarters. Furthermore, the country’s government debt to GDP ratio is not stretched, currently at 25%, and banking sector consolidation is helping reduce stress in the banking system. The de-dollarization of the economy is also a positive sign with local currency deposits increasing their share over the past year.

Kazakhstan suffers from too much of a good thing, as they have mineral deposits of seemingly every element on the periodic table and rank 12th in global oil reserves. The country’s focus on natural resources has left the economy hostage to the boom-bust cycle in commodities and it is a question of whether the current privatization program mentioned above will see proceeds used to diversify the economy, something it seemed many in the private sector in Almaty were sceptical of, due to the government’s inability to effectively execute its policies. With the current upswing in commodity prices, namely oil, and the stabilization of the Kazakh economy, the diversification of the economy will be an important story to follow.

Though resource-focused dependence has hurt the country in the past, it has also brought some development and wealth as Kazakhstan has the highest per capita GDP amongst the Central Asian states at around USD 8,000. Both Astana and Almaty have large modern malls with all the latest brands, while the public transport infrastructure is also well developed. Uber has also made inroads into the country and is widely available in both Astana and Almaty.

One of the key factors which could help the country diversify away from resources may potentially be the China-led Belt and Road Initiative. The land route from Western China to Eurasia will pass through Kazakhstan and this link is expected to lead to a large jump in trans-shipments which will have a positive spillover into the overall economy. The Khorgos land port at the China-Kazakhstan border is already in operation and it is expected to be the largest land port in the world as container volumes crossing the border are estimated to grow from around 100,000 TEUs (twenty-foot equivalents) to more than 1.5 million by 2020.

During the next day of meetings we met with publicly-listed Kaz Minerals which trades in Kazakhstan, London, and Hong Kong. They operate multiple copper mines with exceptionally low production costs. We spoke about the general outlook for the economy and the fact that, while it is still challenging and bureaucratic to do business in the country, it has become easier over time.

This was echoed by our next meeting of the day with the Co-Founder and CEO of a publicly listed vanadium company which boasts an impressive foreign institutional shareholder base as the company is expected to be the lowest cost primary vanadium producer in the world once they scale their production. Vanadium is a metal used to strengthen steel and with China’s environmental measures to cut pollution, the production of vanadium from secondary sources, such as that from the waste of steel production, has been banned. This has seen the price of the metal rise nearly 300% since June 2017.

Our last meeting of the day was with the leading confectionary company in Kazakhstan which produces a range of cookies and chocolates. In this case, like with many meetings in frontier markets, getting information from a one-on-one meeting can at times be difficult as management teams at times are not used to meeting with institutional investors.

That is something the Kazakhstan Stock Exchange would like to work on as we discussed these challenges with them at their headquarters in Almaty. The current benchmark, the Kazakhstan Stock Exchange Index, has eight listings, while the overall market has a larger number of stocks listed, but the benchmark names are the liquid ones with the exchange looking at ways to increase liquidity for the non-benchmark names. Investor and information disclosure of the eight companies on the main index is regular and is on par with the other markets we cover.



A visit to the Kazakhstan Stock Exchange in Almaty


We concluded our final day in Almaty with a stroll around the city as spring had come and the air was both clean and crisp. Locals had begun dining al-fresco again and the trees were no longer barren. Almaty is a very walkable city with several pedestrian streets, giving it a unique feel among other Asian cities, along with the ubiquitous Soviet-style food bazaars.



Checking out the Green Bazaar in Almaty


The day concluded with a thirty-minute drive to the outskirts of Almaty to Medeu, home to the highest ice rink in the world, and Shymbulak, a wonderful ski resort. Ascending the mountain to its peak in a gondola, the weather was a comfortable +11 Celsius and you could hear the skiers and snowboarders below, grinding their way down the mountain on the largely uninhabited slopes.



Shymbulak ski resort


Kazakhstan hosts a number of opportunities from natural resources to tourism and logistics. With the development of the Astana International Stock Exchange, perhaps Kazakhstan will be able to achieve its goal of becoming a regional financial hub, attracting IPO’s from companies based in its neighbouring countries and increasing the listed investment opportunities in the country as Central Asia is an underappreciated region, acting as the connector between Asia and Europe. 



I hope you have enjoyed reading this newsletter. If you would like any further information, please get in touch with me or my colleagues.

With kind regards,
Thomas Hugger
CEO & Fund Manager

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