In this Issue

Macro-Level Outlook

Fund Performance

Country Snapshot:
Papua New Guinea

Travel Notes

Quick Links

Mailing List Signup

Macro-Level Outlook 

We anticipate continued growth and increase of capital inflows into Asian frontier markets in the near-term as more developed and traditional emerging markets struggle with structural difficulties, particularly the United States, Eurozone, and China. Despite improving job numbers in the United States indicating unemployment dipping below 8% to 7.8% for the first since early 2009, the U.S. economy appears to be paralyzed as it determines the outcome from the general election (7 November) and the looming "fiscal cliff", which includes spending cuts and tax hikes scheduled for Q1 2013. In addition, the third round of quantitative easing (QE3) on behalf of the European Central Bank (ECB) is perhaps not the panacea the EU had hope for to resolve their fiscal problems as countries like Germany and Finland are wavering in their commitment to help bail out insolvent countries. Perhaps most damaging to the overall global economy is the economic slowdown of China. After over a decade of double-digit growth, China's GDP is forecasted to slowed to 7.5% this year (below 8% for the first time since 1999) as the second largest economy pivots from an export-based economy to a domestic-consumer one, and brings into question the central government's ability to manage a soft-landing of their economy.

Despite these uncertainties within the largest economies, we anticipate Asian frontier markets to remain steadfast. Our forecasts indicate these markets to remain on their current trajectory toward long-term sustained growth as international investors pivot toward these markets in lieu of more developed and traditional emerging ones. Furthermore, the plethora of undervalued companies operating in high-growth regions will continue to attract international bargain hunters.

Fund Performance

Leopard Asia Frontier Fund (LAFF) USD A-shares gained 3.6% in September 2012, compared to the MSCI Frontier Markets Asia Index (+2.3%) and MSCI World Index USD (+2.5%). As forecasted in our August 2012 newsletter, stock markets in  frontier markets outperformed indexes in developed markets and we predict this trend to continue considering the relatively undervalued nature of these equities compared to those in developed markets.

Last month, Sri Lanka was the top-performing index within the Leopard Asia Frontier Universe (+15.3%), and hosted the second best performing position within the portfolio. Top-performing sectors within Sri Lanka this month were in Services (+47.5%), Construction and Engineering (+26.4%), and Plantations (+25.3%). The indices growth was in large part attributable to a rally in retail sales that began in August and peaked  in mid-September amidst declining interest rates over the past year. In the meantime, net foreign inflow rose to record highs of Rs.31,540 mm (US$ 246 million) from January to September of this year. The Sri Lankan economy is projected to grow at approximately 6% this year with reconstruction and large infrastructure projects acting as a boon to sustained economic growth. In September, Sri Lanka held the largest allocation of funds within LAFF, increasing from 18.4% to 21.3% by the end of the month.

During the month, seven stocks within LAFF recorded a performance of over +15%: two from Myanmar and five from Sri Lanka. The best performing stock was an oil production company operating in Myanmar (+30.3%), followed by a liquor producer from Sri Lanka (+29.1%) that was deeply undervalued and has been benefiting from an increase in foreign sales.

Mongolia was again the worst performing index within LAFF (as predicted in our August newsletter), decreasing by 4%. The Mongolian Stock Exchange (MSE) continues to struggle with structural changes to its trading procedures, including a new electronic trading system, and a failed takeover by a Chinese aluminum producer in August that has deterred foreign investment. LAFF will continue to hold limited exposure to Mongolia (3.2% of AUM), which is the smallest allocation of funds to a single country within the portfolio.

In September, Fund Manager Thomas Hugger traveled to Papua New Guinea to visit current and potential portfolio companies operating within the finance, construction and building materials, consumer goods, transportation, and energy sectors. The visit validated the funds current positions in the country, and the fund manager is exploring additional opportunities to expand the fund's exposure to this high-growth economy.

As of September 30, the portfolio was invested in 71 shares, 1 closed-ended fund (with 52.9% discount to NAV), 1 GDR (with 60% discount) and held 5.1% in cash. During the reporting month, we performed one stock switch in Pakistan, sold one stock in Bangladesh and increased existing positions in Bangladesh, Laos, Myanmar, Sri Lanka and Vietnam. The stocks we hold are listed on the stock exchanges in Bangladesh, Hong Kong, Laos, London, Mongolia, Pakistan, Papua New Guinea, Singapore, Sri Lanka and Vietnam. The two biggest stock positions were both from Laos:  a power producer (5.8%) and a commercial bank (5.3%). The countries with the largest asset allocation included Sri Lanka (21.3%), Vietnam (16.4%), and Bangladesh (14.4%). The sectors with the largest allocation of assets included consumer staples (26.1%) and financials (16.1%). 

Factsheets highlighting the fund's performance as of 30 September 2012 are available here:

Country Snapshot: Papua New Guinea

Every month we highlight economic developments in one country within the Leopard Asia Frontier Universe.

Papua New Guinea at a Crossroads: Can PNG harness its newfound wealth to create long-term economic growth?

A yearlong political stalemate in Papua New Guinea (PNG) ended last month with the inauguration of the country's newest Prime Minister, Mr. Peter O'Neill, following the June-July general election. O'Neill's confirmation will surely provide greater political stability for the Oceania country. Mr. O'Neill's newly formed government consists of approximately 75 members within 111-seat parliament, ensuring an abundance of support for his parliamentary agenda and PNG law protects newly formed governments from no-confidence votes for the first 12 months in office. This should provide Mr. O'Neill with enough cachet to pursue his main objectives, which he campaigned on, specifically fighting corruption, restructuring national planning, and reforming the country's state-owned enterprises, all while husbanding sustained economic growth.

Although Mr. O'Neill's government will have its hands full, it is blessed with a robust economy. PNG has been able to experience strong economic growth over the last few years, as real GDP grew 11% in 2011, and is expected to expand by 7.7% in 2012. PNG's growth is a direct reflection of the impact of high global commodity prices influencing its domestic economy and the influx of foreign investment dollars into large infrastructure projects in the extractive industries, such as Exxon Mobil's Liquid Natural Gas (LNG) project. While Papua New Guinea's economy is expected to level out to a more moderate average rate of 6.3% a year through 2016, growth will be directly tied to commodity prices and its ability to extract resources, which include gold, copper, silver, natural gas, timber, and oil. PNG's agricultural sector also plays a major role in its economy; agriculture accounts for 32% of GDP and supports 75% of the population. Cash crops include coffee, palm oil, cocoa, copra, tea, rubber, and sugar and 40% of the country is covered with exploitable timber.

Regardless, the extractives industry is and will remain the cornerstone of Papua New Guinea's economy for the near to mid-term. The most important project within this sector currently in development is the US$15.7 billion LNG project managed and operated by Exxon Mobile in the Western and Southern Highlands provinces. The project is forecasted to produce over 320 billion cu ft of LNG annually, providing the country with US$ 3.3bn and US$3.4 bn in export revenue in 2015 and 2016 and a total of US$30 bn over the project's 20-year lifespan.

Mining of nickel and cobalt also hold a strong presence in PNG's export sector. The US$1.5 billion Ramu Mine, operated by the China Metallurgical Group, is expected to be worth a total of US$2.3 bn in nickel exports over its four year lifespan (2013-2016), and approximately US$430 bn of cobalt production during the same period.

The importance of the successful implementation of these projects for the future of PNG cannot be understated. The influx of revenue and the jobs that these projects provide could be a game-changer for the country's poorest citizens - 8,605 nationals were hired for the construction of the LNG project alone. Furthermore, a timely launch of a large-scale profit generating project such as Exxon Mobil's LNG plant (expected 2015) will be a strong indicator to other international oil and mining companies standing on the sidelines that PNG is a lucrative destination to conduct business, which could have a lasting impact on its economy.

However, PNG's economy is not immune to downside risks. Any economy heavily dependent on the export of natural resources is vulnerable to a downturn in global commodity prices. In addition, the influx of DFI for large infrastructural projects and revenue from sales of natural resources will place upward inflationary pressures on PNG's local currency, the Kina. This makes PNG vulnerable to Dutch Disease, a scenario in which inflationary pressure from the sale of commodities negatively impact the competitiveness of a country's export in other sectors; in PNG'sinstance, agriculture and logging.

However, if PNG is at risk to the ailments of Dutch Disease, it appears the government is taking requisite steps to ameliorate potential ailments. Perhaps no one policy could potential assuage the impact of rising inflation and stave off Dutch disease than the responsible implementation of PNG's own Sovereign Wealth Fund (SWF). The SWF is mandated to primarily invest offshore, while allocating only 4% of the funds assets under management to domestic investments in a given year. If invested responsibly, such an SWF could stave off inflationary pressures domestically, ensure long-term growth for the government's coffers, and help modernize the country by addressing social issues such as education, unemployment and the rural and agricultural economies.

Dutch disease or not, PNG is poised for titanic growth. Though the country is isolated on the western portion of the island of New Guinea (which it shares with Indonesia) participating in the country's growth is easily achievable through investing in the country's first and only stock exchange; the Port Moresby Securities Exchange (PoMSOX). The bourse was formally opened in June of 1999 as a means to provide a medium to raise domestic and foreign capital for companies operating in PNG. However, it has mostly been a means for large energy and mining companies to raise funds. Of the 19 companies listed on PoMSOX, over half (10) operate in the mining and extractive industries, and most have dual listings in either Sydney or London. The majority of the other nine companies operate in ancillary sectors such as finance, shipping, logistics and transport. In 2011, PoMSOX held a total domestic market capitalization of K85.7 billion (US$ 40.28 bn) - with over 90% of market cap allocated to Oil Search Ltd, PNG's largest oil and gas producer - with an average daily trading value of K689,000 (US$ 324,000).

It is apparent Papua New Guinea is at a crossroad. The country's large influx of FDI, coupled with massive deposits of natural resources portends enormous wealth for the country. Though how Mr. O'Neill's government chooses to spend these newfound fortunes will have a profound impact on PNG's development. Will PNG fall into the trap of the "Resource Curse" and become afflicted by the Dutch Disease as many other resource-rich countries? (See Nigeria) Or will Mr. O'Neill usher in a new epoch of anti-corruption, good governance, and most importantly investing in the country's future, such as education, transportation and agriculture? It is presumed the answer is buried as deep as its oil deposits.economic potential.

Travel Notes

Research trip to Port Moresby, Papua New Guinea

This September I travelled with two other Frontier Fund Managers to Port Moresby, Papua New Guinea (PNG) to visit current and potential portfolio companies for Leopard Asia Frontier Fund (LAFF). Although I had conducted plenty of research on PNG, I had never visited and was eager to learn as much as I could about the country, culture and economy in the limited time I would be visiting.

Upon arrival, we were greeted at Port Moresby's Jacksons International Airport. Although the country's largest, the airport is tiny in comparison to other major airports in the region, and only provides services to four international airlines - two from Australia and Papua New Guinea each. Our main contact in PNG was Mike Rian, an Australian expatriate that has been living in PNG for the past four years. Mike is currently the CEO of one of only two brokerage companies that are members of the Port Moresby Stock Exchange (PoMSOX), which currently lists 19 companies.

Upon checking into our hotel rooms, I first encountered one of the anomalies of PNG. Despite conspicuously high-levels of poverty - at US$2,600 GDP per capita, PNG ranks as the 177th poorest country in the world - the country is quite expensive. The "cheapest" rate at a reasonable hotel room in Port Moresby can run upwards of US$300 a night. And consumer goods and property is unbelievable high as well. Rental prices for a 140 m2 apartment can easily cost between US$ 10,000 and 18,000 a month (serviced apartments in the Airport Hotel cab cost US$ 7,500 a week). We were informed that prices have risen of late due to the influx of employees arriving from big oil companies to work on the massive Liquefied Natural Gas (LNG) project managed and operated by Exxon Mobil.

Our first meeting was held with the CEO of, in my opinion, one of the most intriguing companies listed on PoMSOX. The company (one of three portfolio positions LAFF has held in PNG since its inception in late March 2012) is the strongest and purest consumer play in Papua New Guinea right now. The company operates 31 pharmacies, 11 construction material and housing equipment stores, and six grocery supermarkets. The company also just recently opened the first cinema in Port Moresby. The company also holds various exclusive distribution rights for various multinational pharmaceutical companies, luxury brands, and consumer goods, and is eagerly pursuing plans to further expand into the food business arena, particularly fast food restaurants. McDonald's, KFC, and Starbucks are all conspicuously absent from Port Moresby's landscape.

Following this meeting, we proceeded to meet the CEO of the largest bank in Papua New Guinea (also a LAFF portfolio holding). The CEO, also an Australian expatriate who has been living in PNG for four years, recently helped flip a sleepy local bank into the nations largest. The bank hosts 189 branches and provides financial services to over 1 million customers, and now stands as the country's number one bank despite fierce competition from Australian banking giants ANZ and Westpac. Net profit has grown over 50% since he took over at the bank. Although share prices are still approximately 25% below those listed at the time he took control of the bank, this has been attributed to the fact that shares had been trading at an unreasonably high valuation of 28x P/E when he first began at the bank. Today shares are trading at a far more reasonable and sustainable valuation of 8.8x trailing P/E.

What is most unique about the bank is its ability to reach and provide financial services to villagers in even the most remote locations. They are truly frontier financiers. I was fascinated to learn that the bank's relationship officers can open a bank account in five minutes anywhere in PNG using Samsung Galaxy smartphones, even in remote locations in the middle of the rainforest that do not have access to roads. In many instances, bank branches are fitted into containers and lifted by helicopters to remote villages, some of which only two decades ago first came into contact with non-indigenous people. These container bank "branches" (and Samsung Galaxys) are connected to 3G mobile networks. Despite being twice the size of the United Kingdom (462,000 km2) with many secluded towns and villages, ~90% of the country is covered by 3G networks.

Although daily activity and business all over the South Pacific slows down or comes nearly to a standstill in the afternoon, we were fortunate enough to have Mike arrange one more meeting in the afternoon with the local airline company listed on PoMSOX, where we were allowed to tour the apron and the maintenance hangars. Despite the airlines disappointing safety record - two of their planes have crashed in the last three years - the airline recently started flying to two international destinations (Cairns and Brisbane in Australia) and currently serves 50 destinations in PNG, many of which are small landing strips. There is apparently strong demand from another 250 destinations within PNG, mostly small and remote villages in the "Highlands" that do not have roads with access to major cities. We concluded our first day with dinner and a few South Pacific beers at the "most beautiful airport hotel in Asia ", on a small hill overlooking the airport.

We began our second day by meeting the CEO of an Australian/PNG-listed resource company that currently has four large infrastructure projects in the country. One such project (together with Xstrata) has the potential to become one of the world's largest copper and gold mines. However, the project remains in question due to the recent sharp drop in global commodity prices, which has caused Xstrata to review its entire global investment portfolio. A final decision by Xstrata on this and other projects is expected by the end of October.

Afterward we toured the sleepy town of Port Moresby, which has a population of approximately 200,000 people. Since the unemployment rate in Port Moresby among locals that have recently arrived from remote villages is extremely high (80% for males, 50% for females) some areas are considered unsafe for foreigners even during daytime. At one intersection, Mike told us a story about drivers who were robbed by machete-wielding thieves in broad daylight soon after their cars had stalled out in the middle of the road. We were relieved when we finally drove out of that particular neighborhood and into safer parts of the city.

Our final meeting of the day was at one of the leading finance and service companies in PNG (that also holds subsidiaries in Fiji, Solomon Islands and Vanuatu), in which LAFF also holds a position. Senior management of the company provided a positive outlook in part due to the economic growth to be associated with Exxon Mobil's LNG plant outside of Port Moresby that is expected to begin production in March 2014. This mega-plant will certainly be a milestone in the country's young history. GDP is forecasted to grow exponentially from 2014 onwards and the IFC even predicts GDP growth to top 17% in 2015

On our final day, Mike took us to the massive Exxon Mobil LNG-PNG plant, located approximately 30 minutes by car from Port Moresby. Unfortunately we were unable to tour the construction site. However, even from afar we were impressed by the size of the plant and the overall magnitude of its impact on the economy of PNG. As we departed, I felt confident in the future of PNG's economy in general and the long-term prospects of our stock positions in particular.

Photo of The Month

Emerging Frontiers Blog

We invite you to stay updated with daily investment news and analyses within Asian frontier markets by visiting Leopard Capital's free Emerging Frontiers Blog. Emerging Frontiers now includes news and analysis from all countries within the Leopard Asia Frontier Fund universe.

Kind Regards,

Thomas Hugger
Fund Manager

Disclaimer:

This document does not constitute an offer to sell, or a solicitation of an offer to invest in AFC Asia Frontier Fund, AFC Asia Frontier Fund (non-US), or any other funds sponsored by Asia Frontier Capital Ltd. or its affiliates. We will not make such offer or solicitation prior to the delivery of a definitive offering memorandum and other materials relating to the matters herein. Before making an investment decision with respect to our Funds, we advise potential investors to read carefully the respective offering memorandum, the limited partnership agreement or operating agreement, and the related subscription documents, and to consult with their tax, legal, and financial advisors. We have compiled this information from sources we believe to be reliable, but we cannot guarantee its correctness. We present our opinions without warranty. Past performance is no guarantee of future results. © Asia Frontier Capital Ltd. All rights reserved.

GO TOP