Out of Africa: ETF expert eyes South Africa

"Taxes were cut, tariffs were reduced, and pro-business reforms were put in place to create jobs, promote free trade and attract foreign capital.

"And since then, inflation has fallen, budget deficits have been reined in, and the country's sovereign government debt has been upgraded to investment-grade status -- lowering borrowing costs for both public and private sector investments.

"Along the way, South Africa has also developed a sound regulatory framework and well-capitalized banking system. And unlike many of the thinly-traded markets in neighboring countries, the Johannesburg Stock Exchange is highly liquid and home to dozens of world-class companies.

"Several funds offer varying degrees of exposure to the Africa and Middle East region. But if you want an undiluted, pure-play portfolio targeting strictly the best of South Africa, then EZA is your best bet.

"This exchange-traded fund tracks an index that covers 85% of South Africa's market capitalization. Some of the smaller, more speculative companies might not make the cut, but the country's most promising names are all represented.

"Top billing goes to MTN Group, one of the world's fastest-growing telecom firms. Because mobile penetration rates are lower in Africa than in the developed world, MTN is uniquely positioned to capitalize on healthy subscriber growth as many rural regions skip landlines and upgrade straight to wireless phones.

"Another large chunk of the portfolio goes to Sasol, a global leader in the manufacture of synthetic fuels and chemicals.

"South Africa may not be rich in oil, but it has one of the world's largest coal deposits -- and every day more than 120,000 tons of the black rock are converted to oil in Sasol's advanced coal-to-liquid facilities.

"Shareholders will also have a stake in Naspers, Africa's leading media conglomerate, Massmart, a discount retailer similar to Wal-Mart, and Growthpoint, which manages a portfolio of over 400 commercial properties.

"Overall, the $380 million portfolio has roughly 50 holdings spanning a variety of industries. The bulk of those assets are concentrated in the materials, financial, telecom and energy sectors, but the fund also offers exposure to other attractive niches, including healthcare.

"With its far-reaching portfolio, EZA's gains will be fueled by a barrage of catalysts from several different angles. The fund is chock full of top gold producers, which should benefit handsomely from elevated and likely rising bullion prices.

"Elsewhere, consider that just 10% of South Africa's population currently has internet connectivity, which leaves tremendous untapped potential for mobile broadband rollout -- and undersea cables are already in place to boost capacity and meet rising demand.

"There is no sugarcoating the fact that South Africa is still a volatile emerging market, which means that wildcards like political instability and currency depreciation could spring up at any time to whipsaw investors.

"And like most others, the country is still coping with a protracted global economic slowdown. The country has officially slipped into a recession for the first time in 17 years.

"But construction activity was still up a booming +9.4% last quarter as infrastructure dollars are doled out in anticipation of the World Cup. And odds are good that South Africa's export business will be back on its feet relatively soon.

"In any case, investors have been more than compensated for the risk. In fact, the MSCI South Africa Index has posted annualized returns of +15.3% over the past five years -- and a cumulative gain in excess of +250% since EZA's inception in February 2003.

"But even after bouncing back sharply in recent months, valuation levels on the Johannesburg Stock Exchange (the world's 18th largest by market cap) remain attractive.

"Industry leaders like Sasol are trading at less than 7 times earnings, and the portfolio as a whole carries a P/E below 12. The fund remains a solid 'Buy' under $51 per share."

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