Diversification and Integration Benefits of Frontier Market Equity Funds

This report will provide an analysis of frontier market equity-based investment funds with respect to bivariate correlation analysis, global integration analysis, and US optimized portfolio statistics. My analysis has indicated strong diversification benefits of including frontier market equities in a US portfolio, given its low correlation to US equity concentrated portfolios especially portfolios that would consist of midcap and smallcap stocks. With the drawbacks of the bivariate correlation test, an additional global integration analysis has been included to reaffirm the value frontier markets offer in the form of integration. Integration is a second layer of the diversification analysis. I find that when analyzing frontier markets (FM) against developed markets (DM) there exhibits significantly less integration as compared to emerging markets against developed markets. This analysis goes one step further and quantifies integration of specific frontier market funds against the broader emerging and developed markets. This study finds that iShares MSCI frontier 100 ETF (Ticker: FM) exhibits the least integration amongst Guggenheim Frontier Markets ETF (Ticker: FRN), Templeton Frontier Markets A (Ticker: TFMAX), and Morgan Stanley Frontier Emg (Ticker: MFMIX). Lastly, this analysis covers the inadequacy with using Sharpe ratios and minimum volatility parameters to achieve portfolio optimization under a Monte-Carlo style 1000 portfolio simulation with frontier market funds in a broader US equity portfolio but finds better results when using a US equity and US bond combination portfolio. Overall, this analysis of frontier markets and frontier market funds has shown there still exists significant diversification benefits to US Investors when they engage in FM investments, specifically through diversified FM investment funds.