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Frontier markets are smaller, more undeveloped and riskier than emerging markets, and Friday index provider MSCI Barra announced that not only will it consider upgrading Kuwait, Qatar and the United Arab Emirates to emerging markets from frontier markets (expect a final decision by June 2009), but that it will further consider downgrading Argentina and Colombia to frontier markets from emerging markets “unless significant improvements in the relevant capital flow restrictions are observed” by December (despite Moody’s announcement that Colombia’s debt rating will be raised just one notch below investment grade).  As far as definite downgrades, MSCI said that it will reclassify Jordan to a frontier market from its current designation as an emerging market starting this November, because of the small size of the nation’s market and the lack of liquidity.

More than $3 trillion is benchmarked to the MSCI International Equity Indices, and the MSCI Emerging Markets Index is one of the most widely used indices to gauge the performance of emerging equity markets.  The iShares MSCI Emerging Markets ETF tracks the performance of the index.


Nice piece in last week’s Economist about Michael Joseph (pictured), head of Safaricom, a Kenyan mobile-phone operator (reprinted here, with permission I hope).

The story is especially apropos after the firm’s long awaited IPO finally took place this past week (delayed after violence erupted in December, following elections that left over a thousand dead, and the entire nation on seemingly on the brink of political and military chaos).  The largest IPO in East African history saw “heavy demand” (much from retail customers) for a 25% stake valued at about $800 million.  And The Wall St. Journal wrote that “analysts expect Safaricom’s [IPO] success will spur the government to privatize other entities, especially in light of its need for capital to rejuvenate the economy.”  Safaricom dominates the country’s mobile-phone market, with 80% of the market share.  And according to Economist, it is the most profitable business in eastern and central Africa, earning profits of $223.7m in the financial year to the end of March, up 16% on the previous year.  Before the public offering the Kenyan government held a 60% stake in the firm.  But that share is now reduced to 35%, with the other 40% owned by Vodafone Kenya Ltd., a subsidiary of the London-based Vodafone Group PLC.

As I’ve written before, the importance of mobile phones in frontier markets cannot be overstated, if for no other reason than for e-commerce.  Economist proclaims that “mobile banking could be the next stage of mobile-driven economic transformation,” and the piece on Joseph opines that his “most enduring achievement is likely to be M-PESA, a pioneering service that enables  Safaricom’s customers to send money to each other by text message.  Cheaper and faster than ordinary money transfers, it now moves $1.5m a day across Kenya, in mostly tiny transactions, and is being rolled out in India, Tanzania, Afghanistan and elsewhere.”

Joseph arrived at Safaricom in 2000, having already set up successful mobile-phone networks in Spain, Greece, South Korea, Brazil, and Hungary.  His most important decisions, in the hopes of rebuilding and expanding the Safaricom brand, included: (1) targeting “pay as you go” customers, who pay for mobile airtime in advance, and therefore do not pose a credit risk to the operator; (2) introducing billing by the second (vital for the ultra poor).

Joseph believes that his the poorest customers are the most price-sensitive, and thus that a strong brand can keep them loyal.  So far, his optimism not only for the potential for his product to help those in need, but also for the political and economic future of the continent as a whole, has paid dividends.  And by the looks of this week’s IPO, there are many others who share his sentiments.

According to the Turkish Daily News, Şişecam, Turkey’s largest glassmaker, had $2.5 billion of sales in 2007, as reported by Teoman Yenigün, head of the company’s glass-packaging department. The Istanbul-based company is planning to boost sales by 20 percent to $3 billion this year, said Yenigün. Şişecam will increase output to 3.5 million tons in 2008 from 3 million tons last year and more than double investments to $1 billion.

And last month featured even more promising news from the glassmaking giant, when it opened the doors of its $ 380 million valued glass complex Thracia Glass Bulgaria. The complex, first stone of which was symbolically laid by Turkish Prime Minister Recep Tayyip Erdogan in 2004, consists of glass packaging unit, glass warehouse unit, processed glass plant and mirror glass facilities. The complex will be manned by 1500 employees. It is the first stage of a massive investment project with one more glass packaging factory, automotive glass unit, coated glass production line and laminated glass facilities to be completed by 2010. The new $ 415 million complex will provide employment for another 1700 people.

Turkish Prime Minister Recep Tayyip Erdogan, Minister of Industry and Trade of Turkey Zafer Caglayan, Bulgarian Minister of Economics and Energy Peter Dimitrov, President of Turkish Exporters Association Oguz Satici, President of Şişecam Group Gulsum Azeri and many more highly esteemed guests took part in the inauguration ceremony at the Bulgarian city of Targovhiste. The total worth of the two-staged project will amount to nearly $ 1 billion, the greatest amount invested by Turkey elsewhere up till now.

“Thracia Glass Bulgaria is the most sizable foreign direct investment in Bulgaria as yet”, stated Ahmet Kirman, the Board President of Şişecam Group.

Expanding production in Bulgaria serves a long stated main goal of Şişecam’s, namely to expand into Eastern European markets, even though said factories will admittedly have limited capacity. “This investment [in Bulgaria] is very important for us as the automobile industry is continuously growing. It is also connected to our strategy for expansion of our production that has high added value. Besides automobile industry glass, we will also manufacture products with high emission-holding properties, which, in turn, save energy,” Azeri said. Şişecam’s Turkish plans currently cover 75% of the demand for glass by the car industry in Turkey.

There was a time, however, when the Bulgarian investment looked doubtful. After announcing the success of its first investment in the then-new Turgovishte glass complex worth $220 million, in May 2007, Şişecam management was troubled by Bulgaria’s labour laws. Their main beef was with the perceived contradiction between the Labor Code and Collective Labor Disputes Settlement Act, which Şişecam worried would allow unions to organize unregulated strike actions. According to the company, these regulations neglected the collective labor contract arrangement, which has been in effect since May 1, 2006 and regulated the relationship between the two parties.

Turkish glass making has a storied history that frontier market investors should be familiar with. My interest in this industry was piqued, per usual, by Jim Leitner of Falcon Fund Management, whom I consider to be one of the world’s preeminent “frontier” market investors.

The history of Turkish glass making began with the Seljuks in the 11th century. Following the conquest, Istanbul became the center of Ottoman Turkish glass manufacture. A glass factory, established on the Asiatic shore of Bosphorus in 1795, produced the famous opaque twistware known as cesmibulbul. In 1934, 11 years after the establishment of young Republic of Turkey, the glass industry featured in the first Industrial Plan, which envisaged first a factory producing 3.000 tons of bottles and tumblers per year, was followed by a flat glass factory with a capacity of 2.000 tons. Turkiye Is Bankasi was entrusted with the task of founding these factories. Finally, in 1936 Turkish Glass Company “Şişecam ” was founded.

Today, Şişecam is considered Turkey’s leading glass company, using the latest technology to manufacture a wide range of glass products, including flat glass, automobile glass, fibre glass ando glass tableware. Total production is now one million tons per year, of which a high percentage is exported to 104 countries around the world under the “Şişecam” brand, which has international reputation.

Interesting tidbits while we’re still on the subject of the coffee trade, and especially its rise in Asia which has all kind of global macro bells going off in my head (or is that just a caffeine high?)

This article from Business Daily (BD) Africa is dated roughly a year ago, but still seems highly apropos given my last post on the expected rise in both global demand for coffee, and also the contract prices of coffee futures. Highlighted points include:

  • China, famous for its ancient tea traditions, is following the rapid development already seen in Japan. An old tea-drinking nation, China’s rich neighbor has become the world’s third biggest importer of coffee in just 40 years.
  • China’s consumption–estimated at between 30,000 and 40,000 tons for the mainland–is still less than a tenth of the demand in Japan, according to the International Coffee Organization. However, coffee consumption is growing by 10-15% per year, a rate of growth surpassed only by Russia.
  • Coffee shops are popping up across China. The biggest chain, Taiwan’s UBC, now has around 1,100 stores on the mainland, including 300 that opened last year. Second is Starbucks, which has more than 250 stores in mainland China and predicts that the nation will become its second biggest market outside of North America.
  • Despite coffee’s increased market share, African coffee growers have a fairly low presence in China. As of summer 2007, Uganda was the only African coffee producer with its own distribution chain. Yet all coffee growing nations desperately need to boost their exports to China to help adjust the trade imbalance.
  • Two factors may explain African coffee’s lack of market share: one is marketing, or the lack thereof, especially when compared with South American and specifically Colombian brands; the second is the cheapness and competitiveness of the Chinese marketplace. “China is still a cheap market,” says Ji Ming, director of the China Coffee Association, and higher quality, higher priced beans from say, Kenya or Ethiopia, may not seem so attractive, especially when compared with Vietnamese or Ugandan grown robusta.
  • However, most analysts are convinced that a combination of both local distribution and better promotion could help African arabica growers garner more market share. “We’re confident that with a little more promotion our exports will really increase,” claims Melaku Legesse, head of trade at the Ethiopian embassy in Beijing. “The big brands are now starting to influence Chinese buyers on quality issues and our name is getting better known.”
  • African arabica growers, however, will have to compete with the domestic Yunnan Arabica, which supplies all of the beans for the China-based Nescafe factory that opened in 1992. Roasters in Europe and Japan are increasingly buying Chinese Arabica too. And roasters within China are buying more local coffee in order to avoid the high tariffs on imported product.

Within various frontier markets in Africa are two “soft” commodities beloved by many: coffee and chocolate. We will touch on chocolate (and specifically the Ivory Coast, which accounts for 40% of its world trade) later.

With coffee, like other agricultural commodities, there is a cyclical aspect to pricing. It is also subject to supply and demand pressures. And in particular, as we’ve seen the past few years, prices are somewhat at the mercy of the dollar. Ethiopia and Kenya in particular are receiving increased attention and recognition for the superiority of their crop, especially in relation to the lower quality fare found in Latin America and Vietnam. Economist recently wrote, for instance, that “altitude, climate, soil and genetic diversity give East Africa an inherent advantage in quality. With lower-grade Latin American coffee dominating the market, there is scope for the best coffees from Ethiopia, Kenya, Tanzania and Rwanda to establish themselves.”

Ethiopia is the largest African producer, with coffee sales last year of $425m (representing 36% of export earnings). When studying coffee, it’s important to first distinguish between arabica coffees–a species of coffee indigenous to Ethiopia and Yemen, believed to be the first species of coffee to be cultivated, and considered to produce better coffee than the other major commercially grown coffee species–and coffea canephora, or robusta (here, an arabica fan contrasts the two). Arabica contains less caffeine than any other commercially cultivated species of coffee. Robusta is cheaper to produce, however, and still has a place as filler in instant coffees and also some espresso blends. In recent years Vietnam, which only produces robusta, has surpassed Brazil, India and Indonesia to become the world’s single largest robusta exporter.

But investors should be mainly keyed in on the arabica brand of bean. Conceptually, I’m long arabica for a variety of reasons. For starters, as Economist notes, “coffee prices are the highest they have been for a decade. As consumers in India and China develop a taste for the drink, prices are likely to keep rising. Meanwhile something new is happening in developed markets. Europeans, Americans and Japanese are switching to higher-quality coffee. Discerning consumers now demand authenticity: they want stories about where their coffee beans come from. So the best coffees will increasingly be differentiated, like fine wines and spirits, and sold at previously unthinkable prices.” One only has to look at China by itself to begin to quantify this drastically increased expected demand. For instance, if China increased its current per-capita coffee consumption from about 200 grams to the same levels as in Japan (about 2.3 kilograms), then coffee consumption in China would be almost 3000 million kilograms (compared to about 100 or 200 million kilograms for most Western countries). At present, China is consuming around 45,000 tons of coffee/year, and is growing at a rate of 10% to 15% annually.

Second, I believe in the positive effects that I expect will result from the agreement signed last year between Starbucks, the world’s biggest coffee chain, and the Ethiopian government. You will remember that Starbucks was initially against the government’s plan to trademark the names of three local coffee varieties–Harar, Yegarcheffe, and Sidamo—the bread and butter varieties, so to speak, of Ethiopian coffee, and widely recognized as among the finest beans overall in the entire world. Starbucks argued that if it had to license trademarks, then certain legal complexities could be introduced whereby it might be deterred from buying trademarked beans in the first place, thus hurting Ethiopian farmers with distressed sales. But the government stood its ground. Trademarking regional varieties would establish them as brand names and enable farmers to demand higher prices. With the agreement in place, Ethiopia quickly licensed its brands to 70 suppliers worldwide, including Starbucks. So much for that deterrence? The firm announced last year that it planned to double its imports of coffee from East Africa through 2009, and that it also planed to build a farmer support center staffed by a team of experts in soil management and fieldcrop production to help farmers increase their capacity to produce high-value coffee. It has also spent over $1m on microfinance to East African farmers. Thus, the general industry consensus is that the agreement will be a net positive for farmers. Economist concluded its analysis by quoting Rick Peyser of Green Mountain Coffee Roasters, an American supplier which counts Yegarcheffe among its premium coffees: “[Peyser says that] it will be only a matter of time before the trademarks start to improve the lives of farmers. Ethiopia is now planning to extend the trademark approach into new areas, such as traditional medicines and certain types of teff, the country’s usefully gluten-free staple cereal crop. But coffee, an unparalleled genetic resource, with over 5,000 varieties, will remain the biggest earner.”

How to play East African, arabica coffee? You could invest into companies like Starbucks, which has taken a beating recently due to a slumping U.S. economy (but is also primed to capitalize on increased global sales, especially in China and East Asia). But Starbucks itself does not provide direct access to the coffee market; rather, it must hedge its purchases like anyone esle, and also account for rising costs in other aspects of its production. Another option could be commodity-specific ETFs, which sometimes feature coffee among their listings. However, coffee is not likely to play very prominent role in its holdings.

I believe the play is two-fold. Starbucks will theoretically suffer (as it has historically) if commodity prices continue to rise (see graph), even though it buys most of its coffee based on contract and not the open market.

Theoretically, though, dollar bulls could hedge all at once against the dollar’s further fall (especially when interest rates eventually do rise again), the coffee commodity’s continued rise, and also take advantage of increased global demand in Asia, by getting in while Starbucks is still in a rather depressed market state. Jason Simpkins notes, for instance, that “even though East African nations are among the world’s biggest coffee exporters, China’s accelerating market has proved elusive to African growers.” But now, with Starbucks on the scene, in addition to purchasing African coffee beans, offering micro-financing loans to farmers, and providing social development programs, “it will also be distributing brands of coffee licensed by African nations to its 400 coffee shops in mainland China.” Thus, over the next few years, “[while] East African nations will continue to push for their own avenues of global distribution, they will also continue in their efforts to boost the price of their unique coffee beans in any way they can. In the meantime, Starbucks [will] become a very powerful agent for African coffee production, particularly in China, the world’s fastest growing coffee market.”

However, there may be no better play than to buy directly into the coffee market through futures contracts and specifically through ICEthe Intercontintal Exchange, which operates global commodity and financial products marketplaces, including the world’s leading electronic energy markets and soft commodity exchange. A coffee futures contract is a standardized, binding agreement to make or take delivery of a specified quantity and grade of a commodity at an established point in the future at an agreed upon price. A contract buyer is obligated to take delivery of coffee according to contract terms at a specified date, while sellers are obligated to make delivery. Buyers are considered to be “long” and sellers “short” the coffee futures contract.


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