12 Reasons to Invest in Africa

By Ben Baden

Forget the BRIC countries.

Larry Seruma, chief investment officer of Nile Capital Management, says many retail investors are missing a tremendous opportunity for growth in Africa.

Seruma says more investors will begin to look outside of developed markets like for growth, because those markets aren't expected to grow as fast as they have in the past.

"It's only much more recently you're beginning to see these huge disparities coalesce," he says. "The U.S. is going to have very low investment opportunities going forward."

The biggest, Seruma says, is liquidity. "Liquidity is really the ability to trade frequently," he says. "When you want to get out of a position, it's not easy to get out of a position." Executing trades can be difficult because some African stock markets aren't as transparent and not as much trading takes place compared with, say, the S&P 500. There are other concerns, including the threat of government and corporate corruption. Many African countries have become functioning democracies, however, according to Seruma.

There are a number of funds that give investors access to Africa markets, which are also sometimes called pre-emerging markets.

Here are Seruma's reasons for investing in Africa.

'Ground-floor opportunity.'

Seruma says many investors have already missed what he calls a "ground-floor opportunity" in Africa.

Low correlation.

Correlation is a measure of how investments perform in relation to each other. A low correlation, for example, means that two securities will frequently move in opposite directions. According to Seruma's research, from January 2002 through June 2009, an African composite index of eight countries had a correlation of 0.59 with the S&P 500, 0.66 with the MSCI EAFE Index (which measures developed markets outside of North America), and 0.60 with the MSCI Emerging Markets Index. That means that 59 percent of the time, the returns of the African index differed from those of the S&P 500. Investors can use correlation statistics to find out how to better diversify their portfolios. "The African markets have a very low correlation with domestic or other emerging markets, so [you have a] good opportunity to actually reduce risk in the overall portfolio," he says. Diversifying your portfolio among uncorrelated assets can help offset big losses.

Strong growth expected.

According to projections from the World Bank, nine of the 15 countries in the world with the highest rate of five-year economic growth are in Africa. Seruma estimates that Africa is likely to grow by 4.7 percent over the next five years. Economists expect much slower growth in places like the United States over the next few years. "It's a pretty huge growth differential," he says.

Profitable companies.

There are a number of well-known companies that are based in Africa like South African Breweries (a subsidiary of SABMiller) and telecom company MTN. Africa's total stock market capitalization now exceeds $1 trillion. A recent study by two economists, Paul Collier and Jean-Louis Warnholz, found that from 2002 to 2007, the average annual return on capital of African companies was 65 percent to 70 percent higher than that of comparable companies in China, India, Indonesia, and Vietnam. That means the African companies were more profitable.

Demand for commodities.

"It's mainly driven by [the] BRICs," Seruma says. "As they industrialize, they're going to be demanding more and more of these commodities." For instance, 10 percent of the world's oil reserves and 40 percent of the world's proven gold reserves are found in Africa according to Seruma.

Increasingly less violent.

According to Freedom House, 63 percent of Africa's population now lives in countries designated "free or partially free." Compare that with Asia, which has a score of 66 percent. Seruma says most African countries now have functioning democracies. "It's a very different picture from what it was 20 years ago, and that has increased investment," he says.

China's involvement in the region.

Seruma singles out Chinese companies -- some of which are backed by the government -- have made significant investments in Africa really taking a long-term view about investing. The governments of countries like China have realized that they're going to need resources from the African continent to fund their growth and consumption in the future, Seruma says.

Infrastructure spending.

Countries are no longer coming to Africa solely to extract resources. They're beginning to stay and help make important infrastructure improvements in the country, Seruma says. "The old story of investment in Africa 'let us get the natural resources out of the ground and immediately ship it out,'" Seruma says. "Now it's changing. Not only do they go to Africa an investment in Africa but they're also making the additional development projects." For instance, diamond giant De Beers recently signed a deal to mine diamonds in Botswana, including a commitment to build a diamond sorting facility.

Low debt.

Concerns about sovereign debt -- the debt that governments owe -- has made headlines in Europe. Countries like Greece, Portugal, and most recently, Ireland have seen their debt downgraded by ratings agencies like Standard & Poor's. The United States faces a huge budget deficit. Seruma says he believes that the United States or six more years of low interest rates, which will lead many investors to look to different regions of the world for higher yield. "The capital being pushed out of the developed markets is going to benefit Africa believe this time around, there is some sustainability in terms of capital flows." Many African countries don't have the same worries. Seruma cites Nigeria, which has a debt-to-GDP ratio of only 18 percent, compared with countries like Greece and Japan whose debt-to-GDP ratio is more than 100 percent.

Growing investment from abroad.

Seruma also cites a United Nations Conference on Trade and Development report, which shows that capital flows to Africa.

Attractive valuations.

Seruma believes that many African countries are currently trading at attractive valuations. He says the average price-to-earnings ratio for African companies is about 8 to 9 percent compared with the S&P 500, which has an average P/E ratio of about 15 or 16 percent. "There's a huge valuation differential that is not explained by the risk," he says.

Young demographics.

Compared with other regions of the world, Africa has a much younger median age, which means African governments aren't as burdened by elderly populations and pension plans. It also means that Africa has a young, vibrant workforce, Seruma says. Africa's most populous nation is Nigeria, which Seruma accounts for about a quarter of Africa's total population. Nigeria's median age is 19 years old.

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