The first half of 2018 was unkind to emerging markets stocks and the related ETFs as highlighted by a decline of 7.4% for the widely followed MSCI Emerging Markets Index.
Investors considering developing economies as potential rebound plays should consider cost-effective ETFs, including the SPDR Portfolio Emerging Markets ETF (NYSEArca: SPEM).
Emerging markets equities still trade at a discounts relative to U.S. benchmarks, but the utility of the quality factor in the developing world cannot be understated. Historically, when emerging markets stocks decline, it is lower quality names driving those declines.
The recently resurgent U.S. dollar could be one reason why investors are retreating from emerging markets equities. A stronger dollar raises external financing costs for developing economies and usually leads to lower commodities prices, a relevant point because many developing commodities are major commodities exporters.
“But all is not doom and gloom when it comes to the emerging markets outlook, and tailwinds persist. Across emerging markets, economic fundamentals remain broadly supportive, inflation is relatively under control, and currencies are undervalued in aggregate,” said State Street in a recent note. “The growth differential between EMs and DMs is expected to widen over the next few years, higher commodity prices should bolster EMs in aggregate and emerging market yields remain attractive.”
Analyzing Emerging Market Returns
SPEM tracks the S&P Emerging BMI Index. The fund charges 0.11% per year, or $11 on a $10,000 investment, making it one of the least expensive emerging markets ETFs on the market. SPEM is home to nearly 1,300 stocks.
China accounts for just over 34% of SPEM’s geographic exposure while Taiwan and India combine for 27%. The financial services and technology sectors combine for 47.60% of the fund’s sector exposure. Emerging markets earnings growth is another factor to consider.
“Last year, earnings accounted for the largest proportion of EM returns since 2010, which is shown below. This year, earnings and dividends are still positive but weighed down by negative currency and price-to-earnings (P/E) effects. However, earnings expectations for the rest of 2018, while below last year, are still ahead of the five years before 2017,” according to SSgA.
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Investors considering emerging markets should consider ignoring near-term noise, such as fund flows, and focus on fundamentals.
“However, the reversal in flows to EM equity markets is unearthing new attractive entry points for long-term investors. Moreover, the underlying fundamentals for many countries and companies remain strong, and differentiation with weaker areas is growing, offering greater opportunities for skilled stock pickers,” adds State Street.
For more information on the developing economies, visit our emerging markets category.