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) 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."

In addition to the lack of liquidity, the challenges of investing in frontier markets include restrictions on foreign investment and repatriation of funds.

Also, few of these countries have regulatory bodies for their financial markets.

Out of 200 potential markets, FTSE envisions only 30 potential candidates for a frontier market index.

Currently, there are few, if any, ETFs that offer exposure to these markets. But it's only a matter of time: In addition to FTSE Americas, Bank of New York Mellon ( BK) is getting in on the action; it plans to license indices that track frontier markets.

The new indices will track "the emerging of the emerging markets," says BONY's Rodriguez. He says the indices will hold global depositary receipts, or GDRs, of African and Middle East companies that trade on European exchanges.

Bank of New York Mellon is already a player in the market for ETFs that track foreign markets; its indices of American depositary receipts make up the foundation for PowerShare's BLDRs family of ETFs, such as the BLDRs Emerging Markets 50 ADRs Index Fund ( ADRE).

Among other tidbits gleaned from the conference:
  • Index IQ, the index provider for the Claymore/IndexIQ Small-Cap Value ETF (SCV), has filed to launch three additional ETFs.
  • The Vanguard Group has registered four actively-managed fixed-income ETFs with the Securities and Exchange Commission.
  • Northern Trust Global Investments expects to launch a series of ETFs that will track the local flagship indices of a variety of foreign countries, such as the CAC 40 in France.
  • Invesco (IVZ), the parent company of PowerShares Capital Management, plans to rebrand the subsidiary as Invesco PowerShares.

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