ETF Talk: Braving Frontier Markets

When most American investors hear the word "frontier," they might be more likely to think about the Wild West than their investment portfolios and ETFs. That’s why you may be surprised to learn that "the frontier" is not just about unchartered territories, untamed terrains, or uninhabited land. Developing and growth-oriented foreign markets also fit the description. Such investments offer the potential of enticing returns.

Claymore Securities recently launched the first U.S.-listed, "Frontier Market" ETF, the Claymore/BNY Mellon Frontier Markets ETF (FRN). That ETF seeks to replicate the Bank of New York Mellon New Frontier DR Index. FRN, unveiled earlier this month on June 12, invests at least 80% of its total assets in American depositary receipts (ADRs) and global depositary receipts (GDRs) that make up the Index.

You may be wondering what distinguishes a frontier ETF from an emerging market ETF, such as the iShares MSCI Emerging Markets Index (EEM), which launched in 2003. Frontier markets are about a step or two behind more developed, emerging-market ETFs. For example, the top three country weightings for FRN as of May 31, 2008, featured Poland, 24.86%; Chile, 21.01%; and Egypt, 17.73%. Conversely, EEM’s top three country weightings during the same time period were Brazil, 14.18%; China, 12.89%; and South Korea, 12.36%.

The top two holdings for FRN, as of June 11, 2008, are companies from Poland, featuring Bank Pekao SA, with 8.09%, and Telekomunikacja Polska, with 6.45%. The fund’s third-largest corporate position is Egypt’s Orascom Telecom Holding, with 6.20%. The fourth- and fifth-largest corporate holdings for FRA are Peru’s Mina Buenaventura ADR Rep 2, with 5.26%, and Kazakhstan’s Kazmunaigas, with 5.16%. A list of the top 10 fund holdings, and their weightings, follows.

"Frontier markets have been referred to as the next generation of emerging markets and may potentially offer attractive risk and return ratios, as well as lower correlations to developed and emerging markets," said Christian Magoon, president of Claymore Securities and head of the ETF Group.

One of the big appeals that I see with FRN is that it is expected to have less correlation with the developed stock markets. As a result, this high-risk, high-reward ETF could become a minor part of the portfolio of aggressive investors looking for diversification and international exposure.

This fund has not found a place among the recommendations in any of my trading services, but it definitely bears watching. If you want investment exposure in places such as Poland, Chile, Egypt, Kazakhstan and Peru, this fund could be for you.

If you have any questions about ETFs that you’d like me to answer and that you think might interest the rest of my readers, click here and I may be able to do so in an upcoming ETF Talk feature.