The 'Smart Money' Is Pouring Billions Into The 'Next China'

By: Bristol Voss of Street Authority

Did you miss out on China's unprecedented growth?

In the past decade and a half, China has sailed past Germany, France, Great Britain and Japan before settling in as the world's second-largest economy behind the United States.

If you missed out on that growth, were you put off from investing while many experts dithered about the reliability of official Chinese government data?

It would have been nearly impossible for an individual investor to get in on China in 1998. The Xinhua China 25 Index (NYSE: FXI) made its debut in 2004 as the first Chinese exchange-traded fund (ETF), but it has had considerable downsides, including its fees and a high concentration in the financial space.

As a proxy for investing in China since 2009, consider the SPDR SP China ETF (NYSE: GXC), which has a more balanced portfolio than FXI.

But there's another opportunity in a different market that is in the early stages of tremendous growth. This market isn't a single country, however. I'm talking about 54 countries -- the continent of Africa.

Could Africa really be the next China? According to some experts, it's a real possibility.

"Based on discussions I've had with business leaders and my own research, I would say that the continent of Africa is about where China was 15 years ago on the development and investment scale," said Oliver Pursche, president of Gary Goldberg Financial Services. (The business leaders Pursche spoke with included Kofi Annan, the former U.N. secretary general.)

Since my colleague Andy Obermueller talked about two of his favorite frontier markets on the continent, Nigeria and Kenya, there have been a few developments in Africa. President Barack Obama concluded his recent trip to the continent with a pledge of $7 billion from the U.S. to help bring reliable electricity to 70% of Africa's population.

So why shouldn't investors "follow the (U.S. taxpayers') money" and benefit?

For starters, the recent military coup in Egypt has certainly highlighted one of the major concerns about Africa: political instability. No one said it would be easy.

Obama's appeals aside, there are other signs that "smart money" is being directed to Africa, namely the wealthiest U.S. university endowments. Institutions such as Northwestern University, the University of Texas and Notre Dame have heavily increased their exposure to Africa. Universities have long timeframes, and this underscores that Africa is a "buy and hold" for long-term investors.

China's Big Bet On Africa
Last year, China's ambassador to South Africa said that China's investment in Africa exceeded $40 billion, including $14.7 billion in foreign direct investment.

Last July, China announced $20 billion in loans over the next three years. And China is not alone. In May, Japan announced a $32 billion investment in Africa.

Determining exactly how Africa will grow is somewhat like constructing a mosaic -- and not just because there are 54 countries involved, including seven of the 10 of the world's fastest-growing economies, according to McKinsey Co. (Note that there are different types of investments trade: direct investment and developmental assistance -- and studies take on different aspects of these and use multiple timeframes.)

Getting an accurate picture of Africa is a little reminiscent of trying to evaluate China. Prudent investors should consider various inputs and come to their own conclusion.

Positive data from the more credible sources include:

  •  Last year, foreign direct investment to Africa increased by 5% to $50 billion, according to the United Nations.
  • The rate of return on foreign investments in Africa was, in the first decade of this century, higher than in any other region, according to McKinsey.
  • Africa is now growing faster than Asia, according to the International Monetary Fund.

According to McKinsey, Africa's collective GDP was $1.6 trillion in 2008. While that report only looked at four groups of industries, it concluded that those could generate as much as a combined $2.6 trillion in revenue annually by 2020. This includes infrastructure, resources, agriculture and consumer-facing industries.

Pursche of Goldberg Financial agrees with McKinsey's conclusion, saying he sees the two largest investment opportunities are in infrastructure and energy. He cautions that neither industry would be easy for individual investors to tap into directly.

In terms of U.S. companies that could provide indirect exposure to this trend, GE (NYSE: GE) has signed a deal with the Nigerian government to work together on infrastructure projects.

Pursche and others said that funds were the best way for the individual investor to get exposure. But there's only one ETF that provides relatively pure exposure to the continent: the Market Vectors Africa Index (AFK) ETF.

This fund is heavily invested in shares of companies that are based in Africa, such as Nigerian Breweries, are listed on African exchanges or generate at least 50% of their revenues from Africa, such as London's Tullow Oil. Thanks to the situation in Egypt, along with a general flight from emerging market funds, AFK is down 9.4% this year and is trading at what many consider a bargain.

More daring bargain hunters might consider a single-country ETF such as Market Vectors Egypt (NYSE: EGPT), which is down about 14% this year. This is hardly the first time turmoil has hit that country and, while Cairo in in the news, businesses excluding tourism have not faced disruptions.

Another broad investment to consider is the Nile Pan Africa (MUTF: NAFAX) mutual fund, which is down 5.7% this year. It should be noted that its top holdings are skewed to Nigerian assets such as Nigerian treasury bonds, so any adverse news from that country will affect it disproportionately.

When Africa's infrastructure is shored up -- particularly when the electricity turned on -- you can expect that the continent's consumers will accelerate their spending.

Like China, Africa has more than a billion consumers. If Africa maintains its current growth trajectory, consumers will buy $1.4 trillion worth of goods and services in 2020, roughly in line with India's projected spending and more than Russia's predicted $960 billion, according to the Harvard Business Review.

Anything powered by electricity (read: TV) is likely to be the first segment to take off, followed by other consumer segments. Wal-Mart (NYSE: WMT) is positioning itself to profit from this, as it has finalized a deal worth more than $2 billion to acquire 51% of South Africa's leading retailer, MassMart.

Risks to Consider: Africa is not a 90-day turnaround investment. But I wouldn't be put off by the hand-wringing triggered by the upheaval in Egypt. I think investors can err on the side of caution while acting on these foreign investments, which are all but certain improve infrastructure, raise GDP, and improve the purchasing power of millions of consumers.

Action to Take -- If your long-term portfolio is significantly underweight in foreign stocks, then you may want to slowly increase your exposure to Africa in a prudent manner. In 15 years, we could all be looking for the "next Africa."

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