ETF Industry's Next Conquests: Africa and Mideast

Emerging markets are out, frontier markets are in.

That was the buzz at an exchange-traded funds conference sponsored by Index Publications and Financial Advisor Magazine in Palm Beach Gardens, Fla., last week.

"Frontier markets" are countries on the "cutting edge of emerging markets," says Hernan Rodriguez, managing director at Bank of New York Mellon. He lists Nigeria, Egypt, Kazakhstan, Jordan, Ghana and Kenya, among others.

In a similar vein, acronyms like EAFE (Europe, Australasia, Far East) and BRIC (Brazil, Russia, India and China), are giving way to MENA, for the Mid East-New Africa region of the world.

All of these markets returned more than 50% last year. Nigeria was the biggest winner, surging 115.3%, according to Standard & Poor's.

They also pose big risks. For instance, Pakistan's markets closed for three days after the assassination of opposition leader Benazir Bhutto last month. And Kenya's markets closed for days because of violent riots in the wake of President Mwai Kibaki's disputed election victory.

"What attracts investors are the big returns," says Jerry Moskowitz, president of indexing company FTSE Americas, a unit of Pearson's (PSO Quote) Financial Times and the London Stock Exchange. "But that's not necessarily the reason to buy them."

Still, Moskowitz says frontier markets offer investors a way to diversify into equity markets with very low correlations to the U.S. market, unlike European and Asian markets.

"This is a tricky environment, and we are moving in carefully to avoid making an index that misrepresents the market," he says. "You need to be extremely cautious."

Moskowitz notes that it's still hard to create indices for these countries because there isn't a lot of good data available.

"They have limited exposure, and because trading is limited they put a high premium on liquidity," adds Arlene Reyes, chief operating officer of exchangetradedfunds.com, a Web site that covers the global ETF market.

"Also because of the trading environments, the information that you get could either be incredibly informative or exceptionally questionable."