Answers from the round table, Opal’s European Alternative & Institutional Investing Summit 2011 in Monte Carlo, October 2011

  1. Where are the returns?

Balkan Emerging Frontiers Fund is focused on Western Balkans – countries of the former Yugoslavia (Slovenia, Croatia, Bosnia and Herzegovina, Serbia, Montenegro and Macedonia). We have made 51% net return after all fees in 14 months since we started investing. We are very proud of this achievement, as stock exchange indices in the region and also mutualfunds investing in the region have gone deeply into territory of negative returns.

  1. What matters?

Markets in the region are still very inefficient and so you need to have a regional presence and understanding of how the things are working there to maximise returns for investors. As I was present almost from the start of the privatisation process and the establishment of capital markets (I started at age of 15) I have excellent contacts in the region, so we are capable to quickly receive and evaluate information in order to exploit opportunities by active investment management. With good understanding andexperience we are also able to mitigate most investment risks and obstacles of the countries’ and companies’.

  1. What has worked?

It is important, that we use an independentopen minded investment approach, which is most of the time contrarian to consensus of majority of local investors. Due to our structure we are able to exploit opportunities, which are not suitable for mutual funds. For instance, all of them have daily liquidity, which means that most of the securities listed in the region are not appropriate for them due to low turnover. We have monthly liquidity, different legal structure and different expectations of our investors, so we have much wider pool of potential investments that we screen. We do not have any sector bias as we do bottom-up researchand investment picking. But we also keep in mind that less developed countries of the region have much larger growth potential, and there we have allocated a majority of our portfolio.

  1. Access versus opportunity?

In general, access to our markets is free to everyone. But as mentioned before, you have to have in dept understanding of the region and local presence to maximise the returns and minimise risks. If you have that, risk/reward ratio could be asymmetric and veryfavourable to you, given low efficiency of markets in the region. But if you jump in as an outsider, you can pay quite a high price for that. At least but not the last in form of higher prices paid when purchasing securities and lower prices when selling them, as markets have low liquidity. If you just jump in, you will be often faced with a large bid/ask spread, but if you know markets, you can arrange transaction in a more favourable way before you formally execute them on exchanges. Then there is also question of timely access to information, knowledge of many soft factors not included in annual reports and so on…

  1. Best theme?

We are investing in the last undiscovered investment region in the heart of Europe. For instance, it is very close to Venice and Vienna (only 1 and 2 hours drive by car from the border of the region), although the level of foreign investment has been very low until now.

Regional indices are lagging behind most in the whole world, as some of them are at only 10% of 2007’s highs. Despite the strong rebound of global stock exchanges after March 2009 there has not been any recovery yet in the region. Having in mind low liquidity, when the capital will start to flow back to the region, we will be able to see huge increases in stock prices. That scenario has already been experienced in the past.

From mid to long term perspective, very positive are upcoming EU and NATO accessionthat will converge economies and valuations to that of existing EU member states.

Slovenia has always been the most stabile and advanced country in the region (in the past it was called ‘the Switzerland of the East’). It is already an EU, NATO, Eurozone and OECDmember. Croatia is a member of NATO and it is joining the EU in 2013Montenegro andMacedonia are already EU membership candidates and EU commission recently recommended that the EU set a date for start of accession talks with Montenegro. Serbia is expected to obtain a candidate status in December. All countries in the region are ondifferent stages of EU and NATO accession.

Over the last 15 years we have experienced the impact on economic growth and thecreation of wealth that has happened as a result of countries joining the EU and NATO, adopting the EURO, continuing the privatization process and M&A. The other mayor driverwas development of infrastructure. We use and capitalize all experiences that we have gained in Slovenia, as we believe the whole region will go through the same process. Upcoming EU and NATO accessions will convergence economies and valuations to that of existing EU member states. All the pre- and post- accession aid will boost the economies and speed up a process of closing the gap (convergence) between the Western Balkan countries and existing EU members. Those countries still have to build a lotmore infrastructure (yet this process will additionally boost their economies). Ownership in many listed companies has not yet been concentrated. Processes of acquisitions andmergers will lead to higher prices. Domestic savings in form of direct investments into equities or into funds are still very low, both in nominal as in relative (as compared to the GDP) terms. Over time more and more domestic capital (higher percentage of higher GDP) will flow to equities, meaning stronger demand for them and eventually higher valuations. That will happen predominantly because of two reasons: offers of domestic financial products are still very limited. Over time more products and better marketing will bring more and more domestic capital into the markets. The GDP will be higher so there will be more money available for portfolio and pension investments/savings.

  1. Best idea?

In normal circumstances we are pure equity investors, doing long only stock picking. But last year we also saw tremendous opportunities on Bosnian state bonds (for instance a ten year government bond – YTM is currently at 16%, last year the YTM was at 23%). Growth of the bond was influenced also by chart published in Financial Times, where it was clear that Bosnian state bonds were still low-priced comparing to state bonds of other countries with same credit rating, though they have already fairly increased since summer last year when we started purchasing them. We were doing that despite local and regional per-view investors’ opinion that this is senseless and it is too risky investment. As we are well aware of regional circumstances, we consider the risks in Bosnia and Herzegovina overrated, as it is clear that risks are lower than in some other countries, e.g. Lebanon or Iraq, with same international credit rating. However, there the comparable bonds are valued higher (traded with lower yield to maturity) than in Bosnia and Herzegovina. Even if we neglect security risks, which are in our opinion much higher in Lebanon, Lebanon has higher public debt than Bosnia and Herzegovina. Public debt of Lebanon is 134% of GDP, while below 40% of GDP in Bosnia and Herzegovina (34% at the end of 2010), which is better than majority of countries in Euro area.