Emerging markets (EM) was already a slippery slope to climb, but with Covid-19, that slope gets even more slippery. However, recent data has shown that EM outperformance could be tied to avoiding state-owned enterprises (SOEs).
Per a Financial Times article, “research has shown that passive funds tend to outperform active funds over time, especially when costs are taken into account, research suggests there may be at least one anomaly. Active emerging market equity managers are potentially able to systematically beat the flagship indices by using one simple trick — avoiding state-owned enterprises.”
Given that, enter two exchange-traded funds (ETFs) that have already beaten active managers to the punch.
“Unfortunately for beleaguered active managers, at least two passive ETFs have already been set up to exploit this approach,” the FT article added “WisdomTree’s Emerging Markets ex-State-Owned Enterprises Fund (XSOE) has generated an annualized return of 13 per cent over the past five years, third highest out of 82 EM ETFs tracked by Morningstar and well above the median return of 7.8 per cent. Top of the rankings over this period (and indeed over both one and three years) is The Emerging Markets Internet and Ecommerce ETF (EMQQ), with a five-year annualized gain of 23.8 per cent, according to Morningstar data.”
Why, according to the data, avoid SOEs when considering EM investing?
“Corruption and leakage are a lot more prevalent in SOEs because management and control are not tight enough, intentionally so, as one thing we generally see about corruption is that it goes to the top Ashish Swarup, portfolio manager at Aikya Investment Management What the two ETFs have in common is a healthy disregard for state-owned enterprises — companies in which governments hold controlling stakes,” the article noted.
“SOEs tend to underperform over time because management often have a mandate that is not necessarily aligned with maximizing returns for minority shareholders. They have state goals,” said Emily Leveille, EM equity portfolio manager at Nordea Asset Management.
XSOE seeks to track the price and yield performance of the WisdomTree Emerging Markets ex-State-Owned Enterprises Index. The index is a modified float-adjusted market cap weighted index that consists of common stocks in emerging markets, excluding common stocks of “state-owned enterprises.”
EMQQ provides investors with exposure to the internet and ecommerce sectors of the developing world. Many investors believe that the growth of consumption in emerging markets represents a significant growth opportunity as more than one billion people are expected to enter the consumer class in the coming decades. Increasingly, these consumers are using smartphones and broadband mobile connections to access the internet.
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