Issue13 by Alternative Emerging Investor

ASEAN Integration Emerging Asia

China Solar Boom

FRONTIER MARKET RISK PERCEPTION 1

NOV

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JUN SEP OCT

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Letter from the Editor

Managing Editor

Nate Suppaiah

Public Relations Director

Tiffany Joy Swenson

Head Writer

Carla McKirdy

Contributors EOS Intelligence LR Global Javier Canosa Editorial Partners CEIC Findyr Euromonitor FocusEconomics Design Arman Srsa Contact: info@aeinvestor.com | (202) 905-0378 2015 Alternative Emerging Investor, No statement in this magazine is to be construed as a recommendation for or against any particular investments. Neither this publication nor any part of it may be reproduced in any form or by any means without prior consent of Alternative Emerging Investor.

CONTENTS 14

FOCUS

06 12 14 20 4

CEIC’s MACROWATCH

ASEAN: Economic Progress & Integration Colombia’s Telecom Market Emerging Asia’s Growth Champions Emerging Economies Worth US$1 Trillion

22 24 25

Low Oil Prices Present Opportunities and Risks for Policy makers in Malaysia Expanding Crude Oil Inventories in the United States Slump in Prices Impairs Kuwait’s Oil Reserves

Issue 13 – July/August

26 27

Remittances: An Important Source of Income for South Asian Countries The Wood Sector as a Growth Driver for Latvia

Contents

28 38 EMIA

POLITICAL RISK Chinaâ&#x20AC;&#x2122;s Solar Power Boom Risk in Frontier Markets: Overcoming the Misconceptions

Regulation of Argentine Trusts Under the New Argentina Civil and Commercial Code

Focus EMIA

ASEAN: Economic Progress and Integration

✍✍Anthony Halley and Ricard Torné (FocusEconomics) The ASEAN Economic Community (AEC) is the goal of regional economic integration of the Association of Southeast Asian Nations (ASEAN). Set to launch by 31 December 2015, the AEC will endeavor to move the region toward a more globally-competitive single market and production base with free flows of goods, services, skilled labor, investments and capital across its 10 member states.

he importance of the ASEAN region has increased enormously in recent decades. Nowadays, ASEAN is the 7th largest economy in the world and it is the home of 625 million people, making its population larger than the European Unions’ or North America’s. ASEAN has the 3rd largest labor force in the world, behind China and India. Since 1990, nearly 60% of total ASEAN growth has come from productivity gains. ASEAN GDP growth from 20042014 was 5.4%, outpacing BRIC countries Brazil and Russia.

Focus

Going forward, ASEAN is foreseen outperforming other regional emerging market blocs such as Mercosur, Eastern Europe and the Middle East and North Africa region, with a projected growth forecast of 4.8% in 2015 and 5.2% in 2016.

AEC Mandate

The AEC envisages a region of equitable economic development and full integration with the global economy. AEC member states have targeted the following areas for deeper cooperation: macroeconomic and financial policy consultation;

AEC Key Facts • Includes 10 economies: Brunei, Cambodia, Indonesia, Laos, Malaysia, Myanmar (Burma), Philippines, Singapore, Thailand, Vietnam • Taken as one economy, AEC is world’s 7th largest with GDP of USD 2.5 trillion • On track to become the world’s 4th largest economy by 2050 • With 625 million people, its potential market is larger than the EU or U.S. markets • Wages are lower than China’s in all ASEAN nations except for Singapore and Malaysia • FDI magnet: in 2013 and 2014 ASEAN drew more foreign direct investment combined than China

Focus EMIA

trade financing measures; enhanced private sector involvement for the building of the AEC; enhanced infrastructure and communications connectivity; integrated industries across the region to promote regional sourcing; human resources development; recognition of professional qualifications; and development of electronic transactions through the e-ASEAN initiative.

The Long Road to AEC

In the Declaration of ASEAN Concord II in Bali, Indonesia, made on 7 October 2003, the 10 ASEAN 8

heads of state agreed the establishment of the ASEAN Community, which includes the ASEAN Economic Community (AEC), by 2020. In November 2007, however, the 10 member states decided to accelerate the process and moved the implementation of the AEC forward to the end of 2015. Wealth has been growing rapidly across ASEAN and millions have already ascended into the middle class. The number of consuming households is expected to nearly double by 2025 to 125 million. Foreign direct investment has been flowing into the region (USD 136.2 billion total net inflows in 2014,

surpassing that of China for the 2nd consecutive year) with multinationals hoping to capitalize on its strategic location at the intersection of China, India and Japan and its rapidly expanding middle class. With the AEC integration plan of stronger cross-border supply chains, further reduced goods tariffs and the eventual liberalization of services sectors, the already increasing intra-regional trade should receive an additional boost.

Challenges to Reaching Potential But many internal and external challenges must be overcome before ASEAN’s full potential is realized. Internally, much work can be done to improve the ease of doing business across ASEAN today, which requires navigating a complex landscape of administrative policies, regulations and rules. Although the AEC is a regional initiative, economic integration can only proceed at the behest of national governments, leaving the AEC institutions relatively weak. Progress towards further liberalization and harmonization will, therefore, likely be gradual. Moreover, the ASEAN countries need to increase their capital stock, upgrade infrastructure facilities and remove bottlenecks in order to boost long-term growth. Externally, ASEAN—one of the most open economic regions in the world—is highly vulnerable to global economic trends. Boosting intra-ASEAN trade remains a challenge, as from 2009-2014 it was stuck at roughly 24%. China’s deceleration, a sluggish recovery in Japan and still weak growth in Europe—now threatened by Greek exit from the Eurozone—are major concerns. Volatile capital flows, coupled with the region’s relatively-high external debt, China’s and

Focus America’s preference for negotiating treaties at the bilateral level, geopolitical tensions, commodity price uncertainty and the expected interest rate hike by the Federal Reserve add to ASEAN’s laundry list of challenges and downside risks.

If the integration does succeed in lifting the standards of living and promoting sustainable economic growth across the region, ASEAN will not only be an important economic hub, but also an example for developing countries worldwide.

What’s Needed for ASEAN to be Successful Only time will tell whether ASEAN has done enough to make a successful leap toward deeper integration

in the form of AEC. Member states and the ASEAN secretariat insist 80% of their objectives have been met, including the elimination of 80% of all tariffs on the trade of intra-regional goods. To date, only 50% of ASEAN businesses have utilized tariff reductions set out in ASEAN’s regional FTA. Non-tariff barriers in the form of licenses and quotas—also targeted for reduction in the FTA—remain a major obstacle to integration. In addition to addressing impediments to trade and investment, ASEAN must pursue a range of other structural reforms if the region’s economic progress is to lead to greater convergence with the advanced economies: upgrading labor force skills through an improved educational system; boosting investment to close infrastructure gaps; encouraging home-grown innovation through increased investment, risk appetite and IP protection; and gradual financial sector integration will all help ASEAN continue its impressive success story.

What the Future May Hold

ASEAN’s process of economic integration has largely been a success story and the potential of the region is still enormous. Located in one of the most dynamic regions in the world, with an abundant labor force and a rising role in global markets, the outlook of the region looks 9

Focus EMIA promising. That said, many challenges remain unaddressed. The region needs a common regulation framework to encourage business and also tackle the chronic infrastructure deficit, which is dampening growth potential. Moreover, although there has been progress toward integration, governments in the region are still more concerned with developments at home than with creating a common vision for ASEAN’s future. If the integration does succeed in lifting the standards of living and promoting sustainable economic growth across the region, ASEAN will not only be an important economic hub, but also an example for developing countries worldwide.

About the Author

FocusEconomics is a leading provider of economic forecasts and analysis on the most important macroeconomic indicators for 127 key countries in the Middle East & North Africa, Asia, Europe, and the Americas. Forward-thinking companies require such reliable and timely information to help them make the right business decisions. FocusEconomics’ extensive global network of economists, coupled with its position as an industry leader, are indications of the company’s solid reputation as a reliable source for business intelligence among the world’s major financial institutions, multinational companies and government agencies. www.focus-economics.com

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Focus

Colombia’s Telecom Market

he growth in Colombia’s telecom market is supported by a proliferation of wireless and cellular infrastructure and access points. Here is an example survey of a 2-block radius in Colombia showing the density of cell towers, retail locations, and kiosk access points.

Findyr is a global information marketplace that makes accessing emerging market data as easy as using a search engine. Thousands of Findyr data collectors in 100+ countries collect data, perform surveys, take photos and capture videos on behalf of our clients everyday.

Each issue, Findyr Data Snapshot provides exclusive data points for Alternative Emerging Investor readers. For more information and to access further data, visit us at www.findyr. com

Bogotá, Colombia Panamericana Retail

Cell tower Infrastructure

ETB Retail

Street vendor Services: Mobile phone pay per usage

Celular Parking Retail

Celutec Retail

Street vendor Services: Mobile phone pay per usage

Cell tower Infrastructure

About the Author

Each issue, Findyr Data Snapshot provides exclusive data points for Alternative Emerging Investor readers. For more information and to access further data, visit us at www.findyr.com

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Focus

Emerging Asia’s Growth Champions ✍✍Sarah Boumphrey China, India, Indonesia, Malaysia, Philippines, Thailand and Vietnam are amongst Emerging Asia’s mostestablished consumer markets. Between them they accounted for 57% of consumer spending in Asia-Pacific in 2014 but by 2030 this proportion will increase to 70%. 14

ooking ahead, consumer spending in these seven economies is expected to grow by 7.3% in real terms annually between 2015 and 2030, ranging from just 0.7% in Vietnam, to 7.4% in China.

Philippines moves into pole position Looking at 61 detailed categories of consumer expenditure, from accommodation to meat to insurance to electricity, the Philippines will dominate these seven major emerging markets, with 23 of the fastest-growing categories between 2015 and 2030.

Focus

Focus The Philippines is one of Asia-Pacific’s fastest-growing economies, having averaged real GDP growth of 6.7% for the past three years. Its economy is driven by consumer expenditure – in turn sustained by remittances – strong investment, and higher public spending. Weak commodity prices are also supporting growth. These economic trends are underpinned by favourable demographics – the median age in the Philippines was just 23.1 years in 2014 by far the lowest of these seven economies, and significantly lower than the Asia-Pacific average. Last year the country also reached a major milestone with its population reaching 100 million. The population of working age will increase by 29.6% between 2015 and 2030, compared to a 10.6% fall in China. Looking at consumer expenditure: package holidays, wine and recreational and cultural services are expected to be the fastest-growing categories in the Philippines. The Philippines also tops the growth rankings

amongst its fellow emerging market Asian nations in these areas. The Philippines performance is even more impressive when compared against its historical performance between 2000 and 2014, during which time it had none of the fastest-growing categories. At that time, China dominated with 27 of the fastest-growing 61 categories. For multinationals entering the Philippines, local competition can be tough. For example in consumer foodservice Jollibee Foods Corp. excels and is the leading player – ahead of McDonald’s - through its focus on products that suit the taste profile of local consumers and its nationwide presence. In retailing, local brands tend to dominate, but foreign brands are increasingly entering the market, often through partnerships with local companies. Japanese convenience store giant Lawson’s joint venture with the Philippines Puregold Price

Focus

Club Inc – the Philippines’ second largest retailer in terms of market share (3.2% in 2014 up from 1.0% in 2009) is just one example.

Indonesia, Thailand and Malaysia disappoint

Indonesia and Thailand are not home to any “winning” categories. In the case of Thailand this is perhaps not surprising as it is also expected to see the weakest real GDP growth of the seven nations (3.9% per annum between 2015 and 2030). Indonesia however is expected to see a middling performance, of 5.2% per annum, placing it above Thailand, Malaysia and China. Before 2015, consumer expenditure grew at consistently higher rates than GDP. However, between 2015 and 2030 the situation is expected to be reversed. This comes as a result of a re-orientation of the economy away from consumer spending and mining and towards manufac-

turing, as the government reforms to broaden the country’s engines of growth. Malaysia is also a laggard. Of the 61 categories, Malaysia will have just two “winners”- rail and other travel (the latter including inland and sea travel). Yet for rail travel, this is from a very low base. Malaysians spent just US$1.80 on rail travel in 2014, compared to US$5.00 in Vietnam, a much poorer country. This is due to the relatively small rail network, very short average journey length (33km compared to 365km in Vietnam), and a high rate of urbanisation, with the major cities in relatively close proximity to each other.

Chinese growth slackens

China will have 11 of the 61 categories. A sharp decline from the 27 it had between 2000 and 2014. Some of the biggest slowdowns are being seen in travel – air, rail and other travel and the purchase of cars, motorcy17

Focus

cles and other vehicles.Â For rail and air travel, China was already the largest spender in per capita terms of the seven, which could explain the slowdown, but in the purchase of cars, motorcycles and other vehicles the market is by no means saturated. Consumer expenditure per capita on this segment reached US$31.2 in 2014, lower than in the Philippines and Indonesia - two countries with similar levels of total per capita consumer expenditure. 18

The slowdown in transport spending, although relative (China will still see stronger growth than the other countries in the group of seven in most sub-categories of transport spending) will be much stronger than the slowdown in spending overall. The rate of growth of spending overall is expected to halve in 2015-2030, whereas in transport it will fall even more dramatically, from 942% between 2000 and 2014 to 145% between 2015 and 2030.

Focus

Lessons to be learned

The lessons to be learned here are that past growth is by no means indicative of future performance. Also a broad interest in emerging Asia outside of China is wise, to take maximum advantage of future growth in the region, and changes in the balance of power. The Philippines will be the star performer to 2030, and India too is also expected to see a surge in the number of

categories in which it excels. An interest in China is not enough. Euromonitor International is the worldâ&#x20AC;&#x2122;s leading provider of global consumer market intelligence, with a global network of over 600 market analysts. For more information please visit www.euromonitor.com Â

About the Author

Sarah Boumphrey is the Head of Strategic, Economic and Consumer Insight at Euromonitor International. Sarah specialises in issues around sustainability, emerging markets and the post-recessionary consumer landscape and the impact this has on businesses - follow her on Twitter @SarahBoumphrey.

Focus

Emerging Economies Worth US$1 Trillion

✍✍Sarah Boumphrey

Focus

n 2030 there will be nine emerging market economies with GDP over US$1 trillion, up from five in 2014. Ranging from China on US$23,196 billion to Sau-

di Arabia on US$1,213 billion. The four newcomers will be:Â Indonesia, Turkey, Nigeria and Saudi Arabia. Between them they will account for more than two-thirds of emerging

and developing market GDP. These nine economies are characterised by their differences with huge variations in population and living standards.

About the Author

EMIA MACROWATCH: Emerging Market Data from CEIC

Low Oil Prices Present Opportunities and Risks for Policymakers in Malaysia

ower global oil prices are presenting new opportunities for policymakers, not least in terms of altering fuel subsidies. Previously, Malaysian fuel prices were heavily subsidised to protect consumers from fuel price volatility and to help reduce the household cost of living. However, the rising subsidy bill has placed increasing strain on the government’s budget as the annual fuel subsidy bill reached MYR27.9 billion during 2012 from MYR20.4 billion during the previous year.

Under its revised “managed float” system, retail fuel prices will be benchmarked based on the Mean of Platts Singapore (a widely followed price indicator for transactions of petroleum products) by taking the average price for the previous 10 or 11 days of each month, inclusive of a fixed margin for oil companies and retailers. While sales tax allowance will be retained (to a point), fuel subsidies are eliminated, providing huge savings for the administration and hence aiding fiscal consolidation.

The global decline in oil prices has presented an opportunity for the government not just to reduce its subsidy bills, but to also move towards more market-based pricing.

Central bankers may also enjoy a respite from policy tightening as the decline in oil prices has helped to relieve inflationary pressures. Malaysian inflation moderated to

just 0.9% YoY during March 2015, its lowest level in five years, and a stark contrast from the 3%-3.5% inflation rates observed during the first half of 2014. Indeed, strong domestic demand previously prompted Bank Negara Malaysia (the central bank) to raise its overnight policy rate (OPR) by 25 basis points to 3.25% for the first time in three years to temper inflationary pressures and mitigate the potential risks of financial imbalances. While the central bank’s decision has played a significant role in relieving inflationary pressures, the deflation in fuel and lubricants (comprising 8.77% of the consumer price index) during the first three months of 2015 decisively pushed inflation downwards. The newly introduced www.ceicdata.com

EMIA MACROWATCH: Emerging Market Data fromCommodities CEIC

Source: CEIC Global Database, CEIC Daily Database

Goods and Services Tax (GST) of 6% may nudge inflation upwards in subsequent months, but the relief from lower oil prices (and indeed, commodity prices in general) may help to offset the inflationary impact of the GST. However, among these opportunities lie teething problems, especially given the potential for reversals. The inflation rate spiked to 1.8% in April 2015 largely due to the GST and will likely approach its projectwww.ceicdata.com

ed five year average of 2% over the coming quarters. While these are comfortable territories for inflation, keeping it that way hinges on the continued low oil price scenario. Policymakers must also tackle potential downward adjustments to consumption given the introduction of the GST and its implications on the real economy; the consumer sentiment index slipped to 72.6 points during the first quarter of 2015 from 83.0 points in the previous quarter (100 being the neutral point). On

the flip side, as a net petroleum oil exporter, persistently low oil prices may not necessarily bode well for Malaysiaâ&#x20AC;&#x2122;s external sector. By Ian Lim in Malaysia CEIC Analyst

MACROWATCH: Emerging Market Data from CEIC EMIA

Expanding Crude Oil Inventories in the United States

S crude oil inventories (stocks) rose to an all-time high of 1,181.9 million barrels on 24 April 2015, rising for a 16th consecutive week before easing to 1,173.4 million barrels by mid-May. With crude oil inventories averaging about 1,177.4 million barrels for the month of April 2015, the total oil stockpile is unusually high, compared to its average level of 1,088.6 million barrels in April 2014.

could also be attributed to producersâ&#x20AC;&#x2122; willingness to wait for a more favourable price before selling on the market. The benchmark Brent spot price was at USD 65.2/Barrel as of 18 May 2015, higher since the low-point in January, but slipping 41.2% compared to the same

week in 2014. Despite incurring an additional cost for storing crude oil, US producers have more incentive to avoid selling at low prices given the high cost of shale oil fracking. By Adrian Dela Cruz in Philippines CEIC Analyst

The increase is closely associated with the booming shale oil sector in the US. Total oil production in the US averaged 9.4 million barrels/day in April 2015, an increase from 8.3 million barrels/day during the same month of the previous year. Considering that oil is a durable resource, the rise in crude oil inventories 24

www.ceicdata.com

EMIA MACROWATCH: Emerging Market Data fromCommodities CEIC

Slump in Prices Impairs Kuwaitâ&#x20AC;&#x2122;s Oil Revenues

n December 2014 oil revenues flowing into the Kuwaiti governmentâ&#x20AC;&#x2122;s fiscal accounts decreased to KWD 1.5 billion (USD 5 billion), a slump of 42.1% compared to December 2013. Oil revenues have been falling, at first unevenly, since July 2014 as oil prices

started plummeting. Since then revenues have been dropping by 12.2% on average per month, while in December 2014 the monthly drop accelerated to 14.2%. Due to the heavy dependence of the Kuwaiti economy on its oil reserves, oil revenues are the main compo-

nent of total government income, averaging 91.5% in 2014. The major cause of the slump in government revenues is oil exports, which saw a rapid decline in value in 2014. In December 2014 quarterly oil exports totalled KWD 5.9 billion, falling by 28.6% on an annual basis and 25.9% compared to Q32014. The solution to the slump in revenues might nevertheless be around the corner given the recent partial rebound in oil prices and the further depreciating Kuwaiti Dinar. By Petar Chavdarov in Bulgaria CEIC Analyst

www.ceicdata.com

MACROWATCH: Emerging Market Data from CEIC EMIA

Remittances: An Important Source of Income for South Asian Countries

angladesh, Pakistan, Sri Lanka and Nepal rely heavily on workersâ&#x20AC;&#x2122; remittance inflows as one of their most important sources of earnings. Remittances are the largest form of external receipts for Nepal, and the second largest for Bangladesh, Pa-

kistan and Sri Lanka after merchandise (goods) exports. The large external receipts from remittances are helpful for financing the merchandise trade deficit in all four of these South Asian economies. Remittances accounted for

207.4% of the merchandise trade deficit incurred by Bangladesh in the fiscal year ended June 2014 (FYJune2014). In Pakistan the ratio amounted to 95.7% in FYJune2014, and in Sri Lanka and Nepal remittances were 84.7% (FYDec2014) and 91.3% (FYJuly2014) respectively. For the same period, current account balance-to-GDP ratios were considerably healthy (to varying degrees) for Bangladesh at +0.8%, Pakistan -1.3%, Sri Lanka -2.7% and Nepal +4.7%, despite merchandise trade deficits of respectively USD 6.8 billion (3.9% of GDP), USD 16.6 billion (6.7% of GDP), USD 8.3 billion (11.1% of GDP) and USD 6.1 billion (30.9% of GDP). By Woon Khai Jhek in Malaysia CEIC Analyst

www.ceicdata.com

EMIA MACROWATCH: Emerging Market Data fromCommodities CEIC

The Wood Sector as a Growth Driver for Latvia

ue to Latvia’s landscape, wood production has traditionally been an important driver of economic development in the country. Crucial for the construction sector, it also represents one of Latvia’s major exports. This results in the significant influence

of wood and wood products output on Latvia’s gross domestic product (GDP). Since 2010 annual wood production has averaged 6% of the country’s GDP, compared to a 3.8% average in 2008-2009, reflecting a structural change in economic activity.

The Central Statistical Bureau recorded peaks in both wood production volumes and exports in 2014. In particular, wood, and wood and cork goods’ production accelerated by 10.9% year-on-year (YoY) in 2014, compared to an annual growth rate of 6.2% in 2013. Wood production continued its strong performance in the first quarter of 2015, increasing by 9.6% YoY which, assuming it continues, indicates a promising growth potential for Latvia’s economy in the near future. According to the International Monetary Fund, the country’s real GDP will increase by 2.3% in 2015, 3.3% in 2016 and 3.7% in 2017. By Karolina Jańczak in Poland CEIC Analyst

www.ceicdata.com

Member

China’s Solar Power Boom

✍✍EOS Intelligence

Solar power, once perceived as a luxury that only developed nations could afford, is becoming a viable energy source for a broader set of emerging nations, which are leaning towards solar power generation to meet their obligations under the Kyoto Protocol, conserve scarce traditional resources, reduce dependence on imports of oil and fuel, or address escalating power demand. 28

n particular, several emerging countries in Asia are showing signs of intensified solar photovoltaic (PV) development in the coming years. For instance, China and India, the two Asian giants, are aiming for solar revolution with the target of installing 100 GW of solar PV capacity by 2020 and 2022, respectively. Solar energy is gaining popularity in many other emerging countries in Asia as well, such as in Thailand, Malaysia, Indonesia, and the Philippines. This intensive growth of the region’s solar markets is offering a gamut of opportunities to domestic and global developers, investors, and financial institutions operating in the solar power industry. We are looking at the current landscape of solar PV market across selected Asian countries, starting with China and its future prospects, focusing on certain roadblocks and challenges that may impact the growth potential of Chinese solar market.

Member Currently, China represents the fastest growing solar market globally. While, in 2014, a total 38.7 gigawatt (GW) of new solar PV capacity was installed globally, China accounted for the largest share (roughly 27%) of this new capacity, adding some 10.6 GW, followed by Japan and the USA. China’s strengthening position in the global solar power market is a matter of the past few years. At the end of 2010, China had an installed solar power capacity of less than 1 GW, and within three years it became a leading nation in terms of solar PV installations per year. Present outlook for China’s solar market is indicative of its bright future. Amidst burgeoning market growth, global solar companies are exploring diverse routes to benefit from China’s solar boom.

Market Overview Total grid-connected solar power capacity in China reached 33.12 GW by the end of March 2015, with 27.79 GW from utility-scale solar PV projects and 5.33 GW from distributed solar PV projects. The country continues to add new capacity on an ongoing basis: it added 5.04 GW of new solar PV capacity in the first quarter of 2015 alone and aims to connect a total of 17.8 GW of new solar PV capacity to the grid in 2015. All of this is just part of a larger plan to increase solar power output in this country, as according to the 13th Five-Year Plan (2016-2020),

Utility-scale solar refers to large-scale grid connected solar power generation, whereas distributed generation refers to electricity produced at or near the point where it is to be consumed. In China, solar power generated through rooftop solar PV systems on residential and commercial buildings as well as ground-mounted solar systems on abandoned lands, unused slopes, canopy for agricultural uses, and fish ponds are recognized as distributed solar PV projects.

China aims to install a total 100 GW solar power capacity by 2020 (doubled from the target of 50GW set in 2013 under 12th Five-Year Plan, which we mentioned in our Perspectives in January 2015). Growing solar market is expected to offer ample opportunities for new investments. A report released by Ernst & Young in 2014 indicated that China would require about RMB 737 billion (US$120 billion) of capital investment between 2014 and 2017 to meet its solar targets. About 71% of this capital investment value would be required for development of distributed solar PV projects. Such large-scale investments can be aptly utilized to capitalize on 29

Member country’s abundant solar power generation potential. World Energy Council 2007 estimated China’s

“China’s continued demand for new energy capacity, its ongoing battle against air pollution and energy poverty, and its focus on economic development, meant the 100 GW solar target set in Beijing’s last FiveYear Plan could be treated as the bottom.” – Liansheng Miao, Chairman and CEO, Yingli (world’s secondlargest solar panel producer), 2015

solar power potential at around 19,536,000 terawatt-hours (TWh) per year. 17% of mainland China receives annual solar radiation of more than 1,750 kilowatt-hours per 30

square meter (KWh/m2) and more than 40% of China receives between 1,400-1,750 KWh/m2. According to China National Renewable Energy Centre, several provinces in western and northern parts of the country (including Qinghai, Xinjiang, Tibet, Inner Mongolia, Sichuan and Gansu provinces) represent more than two thirds of the national solar energy resource potential. Most utility-scale solar PV power plants are concentrated in the northern and western parts of China, while distributed solar PV installation is gaining momentum in eastern parts of the country.

Key Growth

Drivers Attempts to counteract deteriorating air quality China became the largest consumer of energy in the world in 2010, with majority of its electricity generated from domestic coal reserves. In 2014, coal accounted for 64% of the total energy consumed in the country. Consequently, air pollution, which impacts public health, is a major problem for China to combat. Chinese Ministry of Environmental Protection indicated that nearly 90% Chinese cities did not meet government-recommended standards related to air quality in 2014.

Member

Solar Resource of China – Direct Normal Solar Radiation

China’s solar boom is driven largely by a progressive policy framework intended to improve country’s energy mix by generating greater portion of energy from clean and abundantly available renewable sources. This push towards solar power generation is also partly aimed at creating additional demand for domestic solar equipment manufacturers. China, being the largest emitter of carbon dioxide in the world (accounting for about 23% of global carbon dioxide emissions in 2014), is committed to move towards cleaner energy sources including

solar power, and to cut down consumption of coal for electricity generation. In November 2014, Chinese President Xi Jinping pledged in an agreement with the US President Barack Obama to increase the share of non-fossil fuels in prima-

ry energy consumption in China from 9.8% in 2013 to around 20% by 2030. Country’s abundant solar power potential along with a strong commitment to move towards cleaner energy sources for electricity generation has been a contribut-

Member ing factor that boosted development of solar market in China.

The need to support the struggling indigenous solar panel manufacturing industry China has been the largest manufacturer and exporter of solar PV panels since 2007, producing the cheapest solar PV panels in the world owing to massive subsidies granted by the government. China has been known to export about 90% of its solar panels. In the face of such a heavy reliance on exports, the trade tariffs recently applied by EU and the USA have affected the growth of this industry.

In 2013, EU and China came up with a trade settlement, under which in a given year, Chinese companies are allowed to export to EU solar equipment able to generate up to 7 GW power without paying duties, provided that the price is not lower than US$0.56 per watt. Any solar products sold above the permissible volume quota or below that minimum price would be subject to anti-dumping duties of an average of 47%. Consequently, EUâ&#x20AC;&#x2122;s share in overall Chinese solar PV module exports reduced from 65% in 2012 to 30% in 2013, and further down to 16% in 2014. At the same time, in December 2014, the USA, which accounted for 3% of the Chinese solar PV module exports in 2014, imposed anti-dumping duty rates of 52% and anti-subsidy rates of 39% on imports of solar panels made in China. Chinese governmentâ&#x20AC;&#x2122;s aggressive efforts to drive significant expansion of domestic solar energy generation capacity is concentrated to spur new demand for solar PV equipment, and thus provide new

market opportunity for indigenous solar panel manufacturing industry, dampened by series of anti-dumping duties levied by top export countries.

Favorable policies and generous government incentives for Chinese solar market Impressive growth rate of Chinese solar market in the recent years has been largely driven by conducive investment and policy environment. The government has introduced several incentive schemes to encourage solar developers to ramp up solar PV installation in China. While the introduction of subsidies and other solutions to fuel in-

Member

Current FiT Policy (Introduced in 2013)

vestment and installations of solar power facilities led to considerable positive results and increase in solar power generation capacity in China, the government intends to stop providing subsidies for solar projects by 2020 in line with falling costs of developing and operating solar projects in the country. With advancements in technology, leading Chinese solar companiesâ&#x20AC;&#x2122; solar PV modules cost decreased from US$1.31 per watt in 2011 to US$0.50 per watt in 2014, representing about 62% decrease in three years. In 2014, Deutsche Bank noted that the solar PV module cost could further decrease by 30-40% in next several years. Moreover, solar power generation cost in China is expected to reach a level comparable with the cost of conventional power generation by 2017. With the decrease of solar panel production costs and the decrease in cost of electricity generation using solar energy, the government will no longer consider subsidies a necessary tool to drive the solar market growth. While generous

government incentives are likely to dry out over time, many renewable energy-friendly policies introduced since 2006 remain in place, and continue to ensure a favorable environment for solar power market.

Key Challenges Lower development of Chinaâ&#x20AC;&#x2122;s distributed solar PV sector in comparison with utility-scale solar PV generation Most large-scale utility projects are concentrated in the highly irradiated northwestern regions of China, where the economy is relatively underdeveloped and electricity consumption is limited. Inefficient grid infrastructure in the country poses substantial challenge of power loss in long-distance transmission from northwest China to other regions that are rapidly developing and experiencing shortage of energy.

solar PV projects, most observers of Chinaâ&#x20AC;&#x2122;s solar energy sector suggest that the country should ideally shift its solar PV market, which concentrates primarily on utility-scale solar PV in remote locations, to distributed solar PV in densely populated areas in the north, south, and east. However, as the current subsidy structure favors utility-scale solar PV projects over distributed solar PV projects, the development of distributed solar PV sector is relatively low. As of 2014, distributed solar PV installations connected to the grid accounted for only 16.65% of the total grid-connected solar installed capacity in China.

Considering transmission challenges and costs involved in utility-scale 33

Member Furthermore, the market for distributed solar PV in China faces other challenges, such as the possible dearth of rooftops suitable for installations of solar systems. Therefore, solar energy developers continue to be more interested in utility-scale solar PV projects in northwestern regions over distributed solar PV projects in other parts of the country, which leads to great loss of power during long-distance transmission, a challenge that could be overcome only if the grid infrastructure is significantly improved. Rising concerns about the quality of domestically produced solar PV modules Solar developers, investors, and financial institutions are increasingly concerned about the quality, performance, and reliability of solar PV modules produced in China. General Administration of Quality Supervision, Inspection and Quarantine, a Chinese regulatory agency, indicated in 2014 that about 23% of solar PV modules produced by Chinese companies for the domestic solar market did not meet recommended quality requirements related to panel’s antireflective coating. Findings were based on inspection conducted in the third quarter of 2014 with samples from 30 companies, which represented about half of China’s suppliers of antireflective glass. Flawed antireflective coating may result in gradual deterioration of power output, thus increasing operational inefficiencies in the long34

term. Experts suggest that such quality defects may not have immediate effect and can go undetected for two or more years of operation of the solar plant, raising uncertainty among investors and developers. “A reduction in power generation caused by quality imperfections

“A reduction in power generation caused by quality imperfections means declining investment returns or even losses from solar farms.” – Meng Xiangan, Vice Chairman, China Renewable Energy Society, 2015 means declining investment returns or even losses from solar farms.” – Meng Xiangan, Vice Chairman, China Renewable Energy Society, 2015 Quality inspection of 3.3 GW of installed solar PV projects (about 10% of China’s installed solar ca-

pacity at the end of 2014) by China General Certification Center in 2014, indicated that a third of 425 utility-scale solar parks surveyed had several defects including faulty solar modules, poor construction, design flaws, and project mismanagement. These solar parks, built in China between 2012 and 2014, are likely to yield lower power output than originally estimated. In light of recently identified quality issues in the domestically manufactured solar PV modules, investors and developers have increased caution in selection and implementation of solar projects in China. For instance, in a recent interview with Bloomberg, CEO of Sky Solar, a Hong Kong-based solar developer, said that the company plans to invest in China only at a “careful” pace because of quality concerns. This might be indicative of broader industry’s concerns that might hamper the rapid development of solar plants in the country.

Opportunities for Global Solar Companies Global solar developers seek manifold opportunities in China’s expanding solar market Global solar companies are keen to grasp the opportunities offered by rapidly growing China’s solar market. With the market’s expan-

Member sion, a surge is expected in demand for imports of certain materials and instruments utilized in solar equipment manufacturing in the country. Participation from foreign solar firms in development of utility-scale solar PV projects in China is increasing in the form of joint development ventures. For instance, in 2014, SunPower, a California-based solar developer, announced plans to develop 3 GW of solar PV in Sichuan province in collaboration with four Chinese partners. SunEdison, another US-based solar energy company, is planning to partner with Chinese companies for development of 1 GW of utility-scale solar project in the country. Foreign solar developers also see opportunity in China’s distributed solar PV sector. For instance, UGE International, a US-based firm offering renewable energy solutions, has partnered with Blue Sky Energy Efficiency, a Hong Kong-based energy investor, to offer the power purchase agreements (PPA) to customers in China. “Blue Sky and UGE are bringing an innovative solar energy financing structure to China that will make it possible to rapidly expand use of on-site renewable energy with no money down.” – Rosie Pidcock, Senior Manager of Commercial Solar, UGE International, 2015 According to Solar Energy Industries Association, solar PPA is a financial agreement where a developer arranges for the design, permits, financing, and installation of

a solar energy system on a customer’s property (rooftop) at little to no cost. The developer sells the power generated to the host customer at a fixed rate that is typically lower than the local utility’s retail rate. This lower electricity price allows the customer to purchase electricity at a rate lower than when purchased from the grid while the developer receives revenue from selling electricity as well as tax credits and other incentives generated from the system. PPAs are common in the USA, but they will be introduced in China for the first time in 2015. PPA financing structure will provide solar electricity to local and multinational corporations operating in China at a cost lower than conventional electricity without any capital investment. Hence, success of PPA is expected to boost the growth of distributed solar PV in China. Inadequate domestic supply of some materials and instruments used in solar equipment manufacturing will encourage global exporters to strengthen their focus on Chinese market

Foreign companies may explore opportunities to export critical materials and components used in manufacturing of solar equipment to China. According to a report released by CCM in 2015, a Guangzhou-based research firm, China relies on imports for about 40-50% of its polysilicon (a key commodity for solar PV panel production) needs. In 2014, China imported around 93,000 tons of polysilicon worth US$2 billion. Other materials used in production of solar PV modules, including silver paste, TPT back sheets, EVA encapsulant film, and slurry material, are also short in supply in China. Furthermore, huge demand is anticipated for advanced equipment required to separate high-purity polysilicon, including hydrogenation furnaces, largescale casting furnaces, plasma enhanced chemical vapor deposition (PECVD) coating equipment, and automatic screen printing presses. China is dependent on imports of these materials and technologies used in solar PV module production, and thus, the ongoing expansion of Chinese solar market

Global solar companies are keen to grasp the opportunities offered by rapidly growing China’s solar market. With the market’s expansion, a surge is expected in demand for imports of certain materials and instruments utilized in solar equipment manufacturing in the country.

Member will provide great opportunities to global suppliers of these commodities. Despite a few challenges, China’s solar market is believed to be set for rapid expansion, at least for the foreseeable future China is installing solar PV capacity at a breakneck pace. The country is already the largest producer of solar PV modules in the world

“Blue Sky and UGE are bringing an innovative solar energy financing structure to China that will make it possible to rapidly expand use of onsite renewable energy with no money down.” – Rosie Pidcock, Senior Manager of Commercial Solar, UGE International, 2015 and if it is able to achieve its solar targets, it might become the largest solar power consumer as well. Chinese government’s support for the development of solar market to achieve its ambitious solar targets by 2020 will serve as a key growth driver. However, China’s ability to establish strong and lasting position as the world’s largest solar power market will be dependent on its ability to efficiently deal with 36

About the Author

Established in 2010, EOS Intelligence is a professional services firm that delivers decision-enabling research and analysis solutions targeted at corporate, consulting and investment organisations. EOS Intelligence was founded with the objective of supporting emerging market -focused growth and optimisation strategies of both global and small and medium enterprises. The firm is led by business research and consulting professionals, with combined domain and sector-specific experience of over 40 years, having worked with multinational companies in India and Europe. The team has aggregate project and client management experience of over 400 projects, for both Fortune 500 clients, as well as multi-million dollar global clients. We have built knowledge capital that is spread across automotive, consumer goods & retail, health care, transportation and utilities & resources industries. Our bouquet of services cut across supporting corporate and business unit strategy assessments, new market opportunity analysis, competitor benchmarking and supply chain rationalisation. At EOS Intelligence, we believe that informed decisions can only be made by accessing the right knowledge and intelligence. Research must form the foundation of all strategic and functional decisions such as those aimed at consolidating a company’s market position, beating the competition and streamlining the supply chain.

challenges it is facing, challenges significant enough to cause caution amongst private investments. The industry would need to focus on potential quality issues identified in domestically produced solar equipment in order to uphold investors’

confidence. The government’s role must also extend beyond the support for solar generation targets, to include development of distributed solar PV sector, that would need additional stimulus from government to pick up pace.

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Member

How can an asset class of equities that includes the likes of Pakistan, Nigeria, and Vietnam possibly not be a highly risky investment proposition reserved for only those with the strongest of stomachs?

Risk in Frontier Markets: Overcoming the Misperceptions

✍✍Sean Wilson, CFA, Brent Clayton, CFA & Ha Ta Originally published in May 2014

hile asset allocators and investors have increasingly come to recognize Frontier Markets as a distinct and viable asset class from traditional Emerging Markets, their excitement is often tempered by a lingering perception that the asset class is “riskier” than Developed Markets or Emerging Markets. Indeed, it is rare to see commentators discuss the Frontier Markets opportunity except in the context of an enhanced risk tolerance. According to a recent article in The Economist on Frontier Markets, 38

“money is leaving emerging markets for riskier bets at the investment frontier.” 1 Likewise, BlackRock’s Chief Investment Strategist recently described Frontier Markets as “traditionally the riskiest areas of the emerging world.” 2 Such depictions of Frontier Markets are often met with nodding heads. If Emerging Markets are more risky than Developed Markets, it would seem logical that Frontier Markets, the next generation of developing markets, must, therefore, be riskier than Emerging Markets.

We at LR Global, an asset manager with a 17-year history investing in Frontier Markets, have become long-accustomed to the biased commentary and sensationalist media coverage of these nascent markets. We assessed the validity of this claim using empirical data from country indices of 80 Developed, Emerging, and Frontier Markets over the last 10 years. Our analysis suggests that Frontier Markets are not only less risky than traditional Emerging Markets, but also less risky than Developed Markets over most periods. While it is natural to

Member fear the unknown or unfamiliar, the prevailing perceptions about risk in equities in Frontier Markets appear to be unfounded. Risk, defined as the probability of loss of capital, can stem from a variety of sources. In the case of Frontier Markets, commonly perceived sources of additional risk are attributed to greater political instability, weaker corporate governance, unstable currencies, and an overdependence on commodities. Based on these factors, the presumption is that Frontier Markets will lend themselves to greater market risk. As the below empirical analysis of common risk metrics suggests, such perceptions of increased market risk appear to be unsubstantiated. Low liquidity is another risk often cited as a warning for investing in Frontier Markets. While liquidity is clearly much lower for Frontier Markets than Emerging Markets or De-

veloped Markets, we view this risk as lying primarily at the fund manager level no different than in any asset class. Whether investing in less liquid stocks in Frontier Markets or less liquid US small capitalization stocks, each manager must take great care to balance portfolio liquidity with the level of assets under management. The risk is a valid one where not properly addressed, but it is less of an asset class risk than a manager risk. We elaborate on our analysis of Frontier Markets liquidity below. Utilizing the last ten years of data for primary indices in 80 countries, we examined risk across two key metrics: standard deviation and value at risk. 3 For both metrics we found that Frontier Markets have actually been less risky as a group than Emerging Markets and have exhibited comparable or lower risk to Developed Markets. We acknowledge that individual Frontier Markets can be volatile just as

individual Emerging Markets and individual Developed Markets can be. Investing 100% of oneâ&#x20AC;&#x2122;s capital in a single country, whether Pakistan (a Frontier Market), Russia (an Emerging Market), or Portugal (a Developed Market) poses much higher risk than can be found in a geographically well-diversified portfolio. However, even if one were to construct a portfolio of 100% exposure to a single countryâ&#x20AC;&#x2122;s primary index for each market category, the median Frontier Marketâ&#x20AC;&#x2122;s single country portfolio would have displayed lower risk than that of the median Emerging Market country and comparable or lower risk to the median Developed Market. Whether looking at an aggregation of countries by market category as found in MSCI indices or looking at the median market in each market category, Frontier Markets have simply not shown the risk attributes that have been cavalierly projected onto them as a foregone conclusion.

Member Below we detail our examination of each measure of risk in turn. We also examine correlation coefficients as a key part of Frontier Markets’ lower risk profile as well as the risks that liquidity can pose to asset managers in Frontier Markets.

to calculate the category series we used the median of the constituent’s standard deviation. Frontier Markets were consistently less volatile than Emerging Markets and less volatile than Developed Markets six out of ten years.

Standard Deviation:

This volatility profile is consistent when looking at the MSCI Frontier Markets, Emerging Markets and World indices. In the 10 years ending December 2013, the MSCI Frontier Markets Index has had a lower annualized volatility (at 17.2%) than the MSCI Emerging Markets Index (at 23.6%), and even slighter lower than MSCI’s Developed Markets index, the MSCI World Index (at 17.5%). 6 This is even more impressive when considering the consequences of the MSCI Frontier Markets Index’s market capitalization-weighted structure, which results in a 52% weighting for the top three countries. These three countries, Kuwait, UAE, and Qatar happen to be some of the most developed and correlated frontier countries to each other within the Frontier Markets group. As two of these countries

We used the standard deviation of each market as our measure of volatility. Frontier Markets have a median annualized standard deviation of 25% over the past ten years—the same as Developed Markets and lower than the 29% for Emerging Markets. Individually, only four of the top ten riskiest markets in the world came from the Frontier Markets group, while eight of the ten least risky markets were Frontier Markets. 4 For volatility over time, we constructed a time series of each country’s standard deviation of rolling three year weekly US dollar returns during the last ten years. 5 Again,

(UAE and Qatar) will soon join the ranks of the MSCI Emerging Market Index, we would expect the rebalanced MSCI Frontier Markets Index to experience lower correlation to the MSCI World Index given higher expected weightings to lower correlation markets (a large index weighting to Kuwait, notwithstanding).

Value at Risk:

Admittedly, standard deviation is a not a perfect measure of risk in that stock market returns are not normally distributed, so we also calculated the value at risk, or VaR, of each market over the same ten-year period. 7 Statistically, skewness and leptokurtosis are inherent in the distribution of historical stock market returns and impair the accuracy of the standard deviation. Perhaps Frontier Markets have fatter left-hand tails or their returns are more skewed to the left (in other words, when Frontier Markets decline, they decline by a greater degree or happen more frequently). It is therefore statistically possible that this riskier characteristic is not being identified by the calculation of a standard deviation. To address this, we calculated an annualized VaR, or what the worst annual loss would be for each market (with 95% confidence). For example, if a market’s VaR was -33%, then we could say with 95% confidence that the worst annual loss would not exceed -33%. Conversely, it could be specified that 5% of the time, the annual market loss could exceed -33%. Obviously, a

Member the collective fear of the unknown and less familiar. While some individual Frontier Markets were riskier than others (just as some individual Emerging Markets and Developed Markets countries were), given the lower correlation of Frontier Markets to each other and to more developed markets, portfolio risk can be reduced when multiple Frontier countries are invested in as a group. higher (i.e., less negative) value for VaR is more desirable. Looking at the median annualized VaR of Frontier, Emerging and Developed Markets, we found similar results to our risk assessment using standard deviation. During the past ten years, Frontier Markets as a group have had a lower average annualized VaR than Developed and Emerging Markets. Individually, only three of the riskiest ten markets in the world were Frontier Markets, while nine of the ten least risky markets came from the Frontier Markets category. The historical time series of VaR during the past ten years follows a pattern similar to our standard deviation analysis. Frontier Markets as a group had the least risky VaR of all groups except during 2006, 2007, and 2008 where it was slightly riskier than Developed Markets, but still not as risky as Emerging Markets.

oped Markets. Over the same 10 year time-period, the MSCI Frontier Markets Index has had an annualized VaR of -27.0%, making it a less risky option than the MSCI Emerging Markets Index and the MSCI World Index at -38.5% and - 28.5%, respectively. Despite the inherent structural flaws of the MSCI Frontier Markets Index due to its market capitalization weighting scheme (where approximately 50% of the indexâ&#x20AC;&#x2122;s geographic exposure is in three Middle Eastern countries), it still shows that Frontier Markets have not been as risky as Emerging Markets or Developed Markets in terms of historical Value at Risk.

Correlations:

Inquiries into standard deviation and VaR reveal that the perception of Frontier Market risk is more myth than reality, possibly a function of

Unlike Developed and Emerging Markets, Frontier Markets have a very low correlation to each other. The average correlation coefficient between Frontier Markets was a mere 0.20 over the last 10 years. 8 Emerging and Developed Markets had average correlation coefficients of 0.50 and 0.68, respectively. Similarly, the correlation of the average Frontier Market to the MSCI World Index (representing Developed Markets) was 0.30 compared to the average Emerging Marketâ&#x20AC;&#x2122;s correlation of 0.62 to the MSCI World Index over this period. Even, when looking at the MSCI indices, Frontier Markets stand out with the MSCI Frontier Markets Index having a correlation of 0.45 to the MSCI World compared to a 0.86 correlation of the MSCI Emerging Markets Index to the MSCI World Index. 9

Liquidity Risk:

Liquidity risk, or the inability to buy or sell without adversely moving se-

This analysis is again confirmed when looking at the annualized VaR for the major MSCI indices for Frontier, Emerging, and Devel41

Member curity prices, is a real Frontier Markets risk that, if managed improperly, can substantially increase overall risk or reduce diversification benefits of the asset class. The total USD average trailing 100day daily traded value of all Frontier Markets is approximately $3.2 billion, which is a fraction of the $22 billion and $100 billion traded in Emerging and Developed Markets, respectively. 10 To make matters worse, the bulk of the liquidity in Frontier Markets is concentrated in only a handful of markets. This is more apparent when looking at median traded daily values of the different market groups. The median traded value of Frontier Markets is only $2.1 million, which is one-hundredth the median value for Emerging Markets and less than one thousandth that of Developed Markets. More sobering is the relationship between liquidity and volatility; generally, the lower the liquidity available, the lower the volatility. Intuitively this makes sense, as the less liquid markets have lower foreign participation and, therefore, are less exposed to the whims of foreign investorsâ&#x20AC;&#x2122; ephemeral risk appetites. Those Frontier Markets with below average volatility relative to the 34 Frontier Markets in our study have a total daily traded value of just $400 million over the trailing three months to April 30th, 2014. The lack of liquidity in the lower volatility Frontier Markets presents a challenge for investors who wish to exploit the lower volatility of the 42

Frontier Markets asset class. The only way for a manager to exploit the lower volatility and related diversification benefits is to limit fund size and to adhere to strict portfolio liquidity policies. If the fund size is too large, the portfolio manager will either be prohibited from investing in the smaller, less correlated Frontier Markets, or take on enormous liquidity risk. We have analyzed this dilemma by looking at the time it would take to liquidate a given portfolio in Frontier Markets and concluded that a portfolio greater than $600 million begins to erode the lower risk benefits of the asset class. We base this on a series of assumptions, as calculated in the following table: First, we set the maximum number of portfolio names at 60, as we feel that it represents the maximum number of companies a 2-4 person portfolio management team can research and monitor intimately. We use an average daily liquidity of the portfolio holdings of $500,000 over the trailing 3 months. This liquidity is small enough to allow for holdings in all of the Frontier Markets analyzed in our risk studies. Finally, we assumed that the portfolio could be liquidated in one calendar quarter using one-third of the average threemonth daily traded value of each position.

We encourage any asset allocator or investor considering an allocation or currently invested with a Frontier Markets fund manager to analyze the fundâ&#x20AC;&#x2122;s portfolio holdings in this manner. Given the temptation some managers have faced in aggregating assets beyond the capacity of the space, there may be hidden liquidity risks with some managers that only an outflow of capital will reveal. Having invested in Frontier Markets for 17 years, we at LR Global believe such ebbs and flows of capital are inevitable and, accordingly, monitor the stocks in our Frontier Markets investment universe where liquidity risks may be lurking by some of our peers who have amassed assets beyond the liquidity profile of their underlying portfolio positions. While it may be easy to build a position in a less liquid stock through negotiated blocks, it is precisely in those times when liquidity is needed most when such blocks dry up leading to trades at fire sale prices or increasingly large positions in illiquid names as capital leaves the fund.

Conclusion

The purpose of our analysis was to address the misperceptions of risk in Frontier Markets. We hope that this

Member paper will act as a catalyst in orienting investors to the actual risk characteristics of a global Frontier Markets equity allocation. Our study shows that Frontier Markets have not been as risky as commonly perceived. Individually, they have been less risky than Emerging Markets and even lower risk than Developed Markets over most periods. As an asset class, Frontier Markets have a distinct advantage due to their lack of correlation between each other. We understand part of the hesitation some asset allocators and investors may have with Frontier Markets stems from a lack of familiarity to the eccentricities and challenges of the asset class. While the market risk in investing in Frontier Markets may be lower than perceived, there are still some unique aspects to Frontier Markets that need to be

considered when selecting a Frontier Markets manager. One must scrutinize closely how a manager balances the liquidity constraints of the asset class with overall fund size. The lower risk advantages of Frontier Markets erode quickly in portfolios that are excessively large or offer overly frequent redemption terms. Therefore, to fully exploit the lower risk characteristics of Frontier Markets, an investor should choose a manager who fully understands the risk characteristics of these markets, has a liquidity discipline, and caps the fund size at approximately $600 million. Other challenges unique to Frontier Markets relate to how a manager handles the informational challenges of investing in such a diverse set of opaque markets, each driven by its own economic, political, regu-

latory, and market dynamics. The first-movers to Frontier Markets are not necessarily the household Wall Street names that have popped up with Frontier funds over the past 2-3 years. As a result, the Frontier Markets experience, infrastructure, and relationships of a manager may matter more than what might feel comfortable when selecting an Emerging or Developed Markets manager. However, for those who come to understand the Frontier Markets space and all its nuances lies the Holy Grail of investing: a diverse set of lowly correlated markets, driven by secular growth trends that appear to still be in their earlier stages of development. While fund capacities of seasoned Frontier Markets fund managers still exist, now is the time to act.

About the Author

LR Global Partners is a Frontier Markets Specialist boutique founded in 1997 as part of the Rockefeller family office. LR Global is employee-owned and has a team of 19 Frontier Markets specialists dedicated to portfolio management, research and analysis. LR Global is headquartered in New York with a global research and analytics center in Vietnam and an affiliate office in Bangladesh. Having invested in Frontier Markets since 1997, LR Global has developed a deep understanding of the asset class with regard to its challenges, pitfalls and the tools needed to better invest in these markets. Leveraging nearly two decades of Frontier Markets experience and the lesson learned over this period, LR Global has designed an investment process, proprietary information processing architecture and custom risk management tools to overcome the challenges in Frontier Markets investing. This infrastructure, designed specifically for Frontier Markets, forms the foundation of LR Globalâ&#x20AC;&#x2122;s informational edge. LR Global is truly unique in that we were one of the first institutional investors in Frontier Markets, pre-dating the formalization of the asset class. LR Globalâ&#x20AC;&#x2122;s investment strategies are the culmination of 18 years of Frontier Markets investing. With this experience and the development of innovative proprietary tools, LR has designed tailored Frontier Markets investment strategies founded on risk management and rigorous fundamental analysis that underpins an institutional investment process unique to this opaque and diverse set of markets. 43

Member Footnotes: “Frontier markets: Wedge beyond the edge”, The Economist, April 5 2014, Print.  Russ Koesterich, CFA, “Three Reasons Frontier & EM Equities Are Not Created Equal,” BlackRock The Blog, February 21, 2014. Available at: http://www.blackrockblog.com/2014/02/21/reasons-frontier-em- equities-created-equal/?utm_source=rss&utm_ medium=rss&utm_campaign=reasons-frontier-em-equities- created-equal&c=DW0&cmp=emaildigest&chn=EMC. 3 For a market to qualify in our study, it must currently trade at least $500,000 per day and have at least five years of history. The markets were grouped according to current S&P or MSCI classifications, with the more mature category awarded to countries where the two providers were not in agreement. Frontiers Markets not covered by either S&P or MSCI were included as long as they met the liquidity and historical data requirements. The study covered the greater of ten years or from when the market’s index history began to the end of December 2013. Only one market, Zimbabwe, did not have a full 10 years of return data, but had at least 5 years and sufficient liquidity. There were 7 other markets that had 10 years of data, but not the additional full 3 years to calculate rolling 3-year figures. These markets included Serbia, Bahrain, Croatia, Dubai, Slovenia, Bangladesh and Ghana. These markets were excluded from calculations of medians where data was not available. 4 Market standard deviations were calculated by using weekly index US dollar logarithmic returns over the past 10 years to December 2013 per the above methodology. The standard deviation for each category (Developed, Emerging, and Frontier) was calculated by taking the median of each constituent’s standard deviation. These figures represent the average of 10 years of 3-year rolling periods. Using a simple annualized standard deviation over the 10 year period yields a very similar outcome with the median Frontier Market having an annualized standard deviation of 25.0% compared to the median Developed Market at 25.5% and the median Emerging Market at 29.5%. 5 As is common practice for such analyses, logarithmic returns were used since they are more normally distributed than simple returns. Regardless of whether logarithmic or simple returns are used, Frontier Markets remain less risky than Emerging and Developed Markets by these measures of risk.  6 Based on the average of 10 years of 3-year rolling periods. Using a simple annualized standard deviation over the 10 year period yields a very similar outcome with the MSCI Frontier Markets Index having an annualized standard deviation of 16.6% compared to the MSCI World Index at 18.1% and the MSCI Emerging Markets Index at 23.9%. 7 VaR is a more robust measure of risk than standard deviation. It measures the potential loss over a defined period of time for a given confidence interval. Unfortunately, there is no standard for calculating VaR and there are various methodologies. Some require making assumptions about future return distributions or running hypothetical Monte Carlo simulations. The aim of our analysis was not to derive and defend the most accurate calculation of VaR, but to apply our methodology consistently so that we can compare the relative differences among the markets and groups. For our analysis, we chose the historical method, which is the simplest method of calculating VaR. Similar to our standard deviation analysis, we used ten years (if available) of US dollar logarithmic weekly market returns and calculated a rolling three year weekly VaR for each country. The VaR of each country was calculated by averaging the rolling periods and the median of the constituent countries of each category was computed for the VaR of each category. The same methodology was applied to the calculation of VaR for the MSCI indices. 8 Based on the trailing 10 years of weekly logarithmic USD returns to December 2013.  9 Due to its market capitalization weighting scheme, the MSCI indices tend to be constructed of the largest stocks in each market and, as a result, tend to have higher correlations to the MSCI World Index than do underlying country indices.  10 Based on LR Global research and estimates as of April 30th, 2014. 1 2

Disclaimer: This document is not an offer or solicitation with respect to the purchase or sale of any security. Any investment decision in connection with LR Global Frontier Fund, L.P, or LR Global Frontier Fund Ltd. should be based on the information contained in the Partnership Documents. Information contained herein is not intended to be complete or final, and is qualified in its entirety by the Partnership Documents and governing documents. This presentation is not intended to constitute legal, tax, or accounting advice or investment recommendations. This document has been prepared solely for information purposes and does not constitute an offer or recommendation to buy or sell any security or instrument or adopt any particular trading strategy. This information is confidential and is being delivered to a limited number of sophisticated prospective investors in jurisdictions where distribution of this presentation to those persons would not be contrary to local laws and regulations. All of the information in this document relating to the LR Global Frontier Fund and L-R Managers, LLC (“LR Global”) or its affiliates and any of the funds and accounts managed by LR Global is communicated solely by LR Global, 430 Park Avenue, Suite 703, New York, NY 10022, United States. No representation or warranty can be given with respect to the accuracy or completeness of the information, or with respect to the terms of any future offer of transactions conforming to the terms hereof. Certain assumptions may have been made in the analysis which resulted in any information and returns/ results detailed herein. No representation is made that any results/returns indicated will be achieved or that all assumptions in achieving these returns have been considered or stated. This document is intended only for the person to whom it has been delivered, and may not be reproduced or redistributed in whole or in part, nor may its contents be disclosed to any person without the prior written consent of L-R Managers, LLC. Notwithstanding anything to the contrary herein or in the Partnership Documents, the recipient (and each employee, representative or other agent) may not disclose to any and all persons, without limitation of any kind, the tax treatment and tax structure of (1) our funds and, (2) any transaction described herein, and all materials of any kind (including opinions or other tax analyses) that are provided to the recipient relating to such tax treatment and tax structure. L-R Managers, LLC are not qualified to give legal, tax or accounting advice to its clients and does not purport to do so in this document. Clients are strongly encouraged to seek the advice of their own professional advisors about the consequences of the proposals contained herein. You will be deemed to have acknowledged that you have understood the risks and consequences associated with the strategies mentioned herein. Any transaction will be subject to legal, regulatory and tax review, and will be entered into only pursuant to documentation to be negotiated on terms acceptable to L-R Managers and you. Past performance of the LR Global Frontier Fund, L.P, or LR Global Frontier Fund Ltd. are not indicative or a guarantee of future performance. An investment in any of our Funds entails substantial risks, including potentially the risk of loss of one’s entire investment, and is not appropriate for all investors. There is no assurance that any of our investment objectives will be achieved or that these strategies will be successful.

Political Risk

The Saudi Stock Exchange International Roadshow SINGAPORE/LONDON/NYC The Saudi Stock Exchange has recently opened to Qualifying Foreign Investors (QFIs). This opening is a core part of the Exchangeâ&#x20AC;&#x2122;s medium-term strategy to internationalise and institutionalise one of the biggest and most liquid emerging market exchanges. As part of this programme, Euromoney Conferences is working with the Saudi Stock Exchange to create a series of international roadshows. The roadshows will visit Singapore, London and New York throughout October and November 2015. Each roadshow will feature a mixture of discussions, one-to-one meetings and networking between a delegation of listed Saudi companies and international investors, analysts and commentators. The full programme for the roadshow as well as the names of participating issuers, investors and intermediaries will be released in early September. Attendance is free but is limited to institutions and individuals directly relevant to the roadshow objectives and is always at the discretion of Euromoney Conferences and its partners. If you wish to register your interest in participating in one or all of the roadshows then please call +44(0)20 7556 6036 or email jonathan.russell@euromoneyplc.com.

For more information visit our website www.euromoneyconferences.com 45

Political Risk

Regulation of Argentine Trusts under the New Argentine Civil and Commercial Code

✍✍Javier Canosa

n August 1st, 2015, a new civil and commercial code (the “New Civil and Commercial Code”) will become effective in Argentina. The New Civil and Commercial Code introduces new regulations in connection with trusts in Argentina. The New Civil and Commercial Code amends the current Argentine Trust Law (Law No. 24,441, the “Trust Law”). Trusts are regulated in Chapter 30 of the New Civil and Commercial Code, which incorporates suggestions of legal scholars and case law with respect to certain issues of interpretation and application of trust law. The main new introductions of the New Civil and Commercial Code are the following:

Property that may be held in trust: Pursuant to Section 1670 of the New Civil and Commercial Code, 46

the entirety of an individual or company´s assets may be held in trust. However, future inheritances cannot be held in trust. Moreover, guaranties cannot be assigned without the credit that the guarantees serve as such. In other words, interest in secured property cannot be assigned without their secured credit secured, and therefore, they cannot be held in trust. In this sense, Section 2186 of the New Civil and Commercial Code establishes that “…interest in secured property is accessory to the secured obligation. It is not transferable without the secured obligation, and is terminated with the secured obligation, except when established by law…”

Duty to contract with an insurance company: Section 1685 of the New Civil and Commercial Code establishes that “notwithstanding [the trustee’s]

responsibility, the trustee has a duty to purchase insurance against civil liability to cover damage caused by the trust property”. This will increase the cost of setting up and managing a trust. Furthermore, this Section provides that when the trustee fails to purchase insurance or when the insurance coverage proves unreasonable with respect to risk or amounts, the trustee is responsible under the terms of Section 1757. Therefore, in this case, the trustee is strictly liable for the damage caused by the risk or defect of the assets held in trust.

The trustee may also be a trust beneficiary: Although current Trust Law did not expressly establish a prohibition for the trustee to be a trust beneficiary, most scholars believed that this prohibition was implied by such Law. Now, under Section 1673 of the New Civil and Commercial Code, it is expressly established that the

Political Risk

trustee can also be a trust beneficiary; in which case, however, he/she must avoid any conflict of interests, and must act for the benefit of the other parties to the trust agreement. With regard to the remainder beneficiary (fideicomisario), however, Section 1672 of the NCCC provides that the trustee cannot be a remainder beneficiary.

Trust-backed obligations – Guarantee Trust (Fideicomiso en Graantía): Section 1680 of the New Civil and Commercial Code introduces definition of the guarantee trust or fideocomiso en garantía that allows for trust-backed obligations, establishing that if a specified obligation is backed by a trust, the trustee may apply the sums of money consti-

tuting the trust property, including sums of money coming from judicial or extrajudicial recovery of claims or rights in trusts, to the payment of the secured obligation.

About the Author

Javier is a partner in the BA firm Canosa Abogados. Javier’s practice develops in corporate law issues, advising several national and foreign companies in various corporate matters, including investment vehicles, corporate management, directors’ duties and responsibilities, audits, risks’ detection and distribution, documents, policies and corporate contracts, and design and implementation of a suitable corporate form for each business. www.canosa.com

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