Frontier markets are the smallest and least developed stock markets in the world. The term is used by index providers and investors to describe markets that are below the emerging-market group in size, liquidity, market access and the depth of their institutions. Many frontier markets have only a handful of listed companies that trade regularly, and some have only a few investors able to buy foreign shares.
This guide explains what the term means, how frontier markets are identified, why they are hard to trade, and the risks an investor must weigh. It is general information, not advice on any market.
What the term means
Frontier markets sit below emerging markets in the classification used by the main index providers. They are judged on criteria such as the size of the market, how many companies are investable, how easily foreign investors can access the market, and how liquid the trading is. A market can be classified as frontier by one provider and as emerging by another, and the classification changes as the market develops.
The label is not a judgement that a country is poor or that its companies are weak. Some frontier markets have strong businesses and growing economies. The label describes how easily an outside investor can buy, hold and sell shares there.
Why they are hard to trade
Thin trading. Many frontier-market shares trade only a few times a week, or on a few days a month. A small order can move the price, and a large holding can take months to sell without a large discount.
Few investable companies. An index of a frontier market may include only a small number of companies that foreign investors can actually buy. The rest may be closed to outsiders, unlisted, or too small to trade.
Access and registration. Foreign investors may need to register, obtain approvals, or meet limits on how much of a company they can own. Some markets have restrictions on moving money out, and some have periods when access is suspended.
Limited information. Companies may publish less information, less often, and in a language or format that is harder to check. Auditing and enforcement may be weaker than in larger markets.
Currency. Frontier currencies can be volatile and difficult to convert, with limited hedging options.
Risk and return
The argument for frontier markets is that they can offer high growth and returns that are not correlated with larger markets, because their economies move on different drivers. That argument has some basis, and some frontier markets have produced strong returns for long periods. But the same features that create the opportunity also create the risk. A market that is hard to enter is often also hard to leave, and a loss can be very large and last a long time.
Investors have also seen frontier markets fall sharply on political events, changes in rules, capital controls and currency crises. A single bad year can erase several good ones.
A worked example: liquidity and the exit
Suppose you hold shares in a small company worth 100,000 at the last trade. The company trades an average of 2,000 in value a day. If you need to sell the whole position, selling 2,000 a day would take fifty trading days, and the price could move against you as you sell, especially if other holders are also trying to exit.
If you sold the whole position in one day, you might have to accept a much lower price to find enough buyers. The difference between the price on the screen and the price you actually receive is the liquidity cost. In a frontier market it can be large, and it is paid on the way out.
| Measure | Value |
|---|---|
| Position value at the last trade | 100,000 |
| Average daily trading value | 2,000 |
| Days to sell at 100% of daily trading | 50 |
| Likely discount for a fast sale | Can be substantial |
The table is illustrative, not a measure of any real market. It shows why the exit matters as much as the entry.
How investors approach them
Most investors who consider frontier markets do so through funds that hold many companies across several markets, rather than through single shares. A fund spreads the liquidity and access risk, and it has specialists who handle the registration and trading. Even so, the fund can face the same problems in a sell-off, and its price can fall more than its holdings suggest if investors rush to leave together.
Investors who buy single shares in a frontier market should accept that they may be unable to sell when they want to. Size such holdings small enough that a long wait to exit, or a large discount, would not damage the rest of the portfolio.
Reading thin price data
In a thin market, a price can stay the same for days because no trade has happened, not because the value has held. A flat line on a chart can look like stability when it is simply a lack of trading. Check the date and the volume of the last trade, and treat a price with no recent volume as stale. A large move after a long gap can also reflect a single small trade. Look for the volume behind the move, and for news, before you trust the figure. Where data gaps are common, a price history can understate the real risk, because the true prices at which holders could have sold are not recorded. Where the exchange publishes order-book depth, look at it before a trade, because it shows how much could be sold at each price, which a single trade price does not. A price backed by real depth is far more useful than one backed by a single small order.
Investors should also remember that a frontier market can close to foreign buyers for a period without warning. When that happens, the price may still be quoted, but the holders who wish to sell cannot always do so. Keep this in mind when you decide how much to invest, and do not count on being able to exit at the quoted price in a crisis.
What to check before any investment
- The index provider's classification, and whether a market has been upgraded or downgraded.
- The number of investable companies, and their trading volume.
- The rules for foreign investors, including any limits on ownership or moving money out.
- The currency, its convertibility and the cost of converting.
- The reporting standards and the strength of enforcement for minority shareholders.
- Your own exit plan, including how long a sale could take.
Common mistakes
Buying a thin share without planning the exit. The price on the screen may not be the price you receive.
Treating a fund's diversification as liquidity. A fund can face the same thin markets when many holders leave together.
Ignoring access rules. A rule change or a suspension can stop you trading altogether.
Overlooking currency. A frontier currency can move sharply and be hard to convert.
Investing more than you can afford to have locked up. The money may be inaccessible for long periods.
Key takeaways
Frontier markets are the smallest and least developed stock markets, classified by index providers below the emerging markets. They are hard to trade because of thin volume, few investable companies, access rules, limited information and volatile currencies. The return potential is matched by the risk of large losses and of being unable to sell. Most investors use diversified funds, and anyone who buys single shares must size the holding for a long and costly exit.
This guide is for general information, not financial advice. See the disclaimer.