Broad emerging market index-based exchange traded funds may be overexposed to developing countries that are arguably more mature and more correlated with developed economies.
For instance, the iShares MSCI Emerging Markets ETF (NYSEArca: EEM) and Vanguard FTSE Emerging Markets ETF (NYSEArca: VWO) include a heavy allocation in “mature” emerging economies, writes Tim Atwill, managing director, investment strategy, at Parametric, for InvestmentNews. [Emerging Market ETFs: Cheap Valuations But Monitor Your Trades]
Specifically, EEM’s top country weights include China 18.4%, South Korea 14.3%, Taiwan 11.9%, Brazil 11.3% and South Africa 7.4%. VWO top allocations include China 21.5%, Taiwan 13.7%, Brazil 12.5%, India 11.1% and South Africa 9.0%.
Many consider both Taiwan and Korea as almost completely developed. FTSE Index has upgraded South Korea to developed status, and VWO, which tracks an FTSE Index, does not include Korea among its country weights.
Atwill argues that investing in emerging markets should help investors diversify a portfolio. However, major emerging market indices include heavy exposure to countries that are arguably on the verge of becoming developed.
“This means these countries are much further along their economic growth path than the smaller, less mature emerging economies,” Atwill said. “This results in expected growth rates much closer to the developed world than their less developed, emerging peers.”
Moreover, the larger emerging markets are more closely tied to the global economy, which makes them more correlated to developed countries.
Alternatively, there are a number of ETFs that track more developing economies. For instance, the EGShares Beyond BRICs ETF (NYSEArca: BBRC) tracks emerging and frontier markets, excluding Brazil, Russia, India and China, or the BRICs. BBRC’s top country weights include Qatar, Mexico, South Africa, Malaysia and Indonesia.
The Global X Next Emerging & Frontier ETF (NYSEArca: EMFM) also includes country exposure outside of the major emerging BRICs, along with some frontier market positions. Top country weights include Malaysia, South Africa, Mexico, Thailand and Turkey.
Additionally, frontier market-focused ETFs provide access to some of the up-and-coming economies of the world. For instance, the iShares MSCI Frontier 100 ETF (NYSEArca: FM) has a heavy 24.1% weight in Kuwait, followed by Nigeria 13.8% and Argentina 8.4%. The Guggenheim Frontier Markets ETF (NYSEArca: FRN) includes a hefty 40.7% tilt toward Chile, followed by Colombia 17.5% and Argentina 14.4%. [BlackRock: Looking for Opportunities Overseas? Try this Untapped Resource]
For more information on developing economies, visit our emerging markets category.
Max Chen contributed to this article.