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Home bias prevents African investments

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In 2019 six of the world’s 10 fastest growing economies were African. Image credit: Leon Louw for WhyAfrica

Home bias prevents African investments

Whether investors display home bias consciously or unconsciously, the truth is that it’s causing them to miss out on significant opportunities – especially in emerging markets.

 By Bryan Turner, Partner, Spear Capital 

 The world is beset by extreme inequality. In fact, a study released in December 2021 found that global inequality is at levels not seen since the peak of Western imperialism. And, while we tend to focus on things like income inequality and unequal access to resources, there are also serious levels of inequality in the investment space.

You only have to look at the amount invested in African technology start-ups last year and compare it to the funding US start-ups received to see how stark that inequality really is. In 2021, African start-ups raised more than USD4-billion, a record figure and more than double the amount raised the year before. US start-ups, by contrast, raised USD329.9-billion. There are, of course, mitigating factors in that discrepancy. It is nonetheless striking that the start-ups in a country of 300 million or so people raised more than 80 times the funding of those on a continent that’s home to more than a billion people.

So, what’s behind those high levels of inequality and what, if anything, can be done to reduce them?

Overcoming biases 

A large part of the issue comes down to specific biases. Many Western investors may say they’re open to investing in other markets but will end up putting more money into the markets they’re most familiar with. That’s understandable too. Everyone has a comfort zone; a place where familiarity and predictability make you feel safe.

But comfort comes with the risk of complacency and missing out on new challenges and growth opportunities – both personal and professional. The comfort zone for private equity investors is better known as the ‘home bias’ – they favour investing in domestic businesses even when other markets could offer higher returns on investment.

Home bias originally arose out of the complexities associated with foreign investments, including legal restrictions and additional transaction costs. Others may exhibit it simply because they’d rather invest in what they already know than venture into new territories.

Some investors may not be aware of those biases, while others may believe that they’re simply taking a less risky approach. But as current conditions illustrate, those attempts to avoid risk don’t always pay off. As interest rates rise and the era of “free money” ends, many investors are having to look elsewhere. In the UK, for example, investors have withdrawn more than £2.35-billion from British equity markets so far in 2022. Of that, £416-million was withdrawn in July alone. While some of that capital has gone into bonds, that’s not the case for all of it.

Whether investors display home bias consciously or unconsciously, the truth is that it’s causing them to miss out on significant opportunities – especially in emerging markets.

The case for emerging markets 

Remember, emerging markets are the primary drivers of global economic growth. In fact, just 20 emerging market countries represent 34% of the world’s nominal GDP in US dollars and 46% in purchasing-power-parity terms.

Even outside of the markets, however, there is significant opportunity for those willing to take it. Take Africa, for example. While South Africa, its most developed economy, is on the list of 20 countries mentioned above, no other country on the continent is. Despite that, Africa has a lot going for it. There’s a reason after all, that as recently as 2019, six of the world’s 10 fastest growing economies were African.

With a median age of 19.7 years and 40% of the population under the age of 15, it has a significant base of increasingly well-connected and well-educated young people. Those young people are savvy consumers who expect the same kind of experiences as their peers in other countries. As economies on the continent become more developed, those young people represent a massive well of growth opportunity.

It’s additionally worth bearing in mind that people across the continent are increasingly entrepreneurial and ready to build those experiences themselves. As a result, they’re building businesses that are thriving despite socio-economic conditions that are sometimes challenging.

Taken in conjunction, these two factors mean that investors don’t only have a lot to gain from future investments in African businesses but also from investing in them now.

Partnerships can help overcome fears 

Of course, no one’s saying that these investors should go in blind. There are risks in all markets, including African ones. They can, however, be mitigated by making use of investment partners who know the lay of the land and who have extensive, on-the-ground experience.

That way investment inequality will come down, not because of any guilt felt by Western investors, but because overcoming their biases has opened up their eyes to opportunities that exist in other markets.

Home bias prevents African investments

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Home bias prevents African investments

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