2015 has been a banner year for emerging markets. Even allowing for a strong dollar, which erodes local-market returns when translated, many emerging-markets indices are up well into double-digit returns.
Chinese H-shares, as measured by the iShares China Large-Cap ETF (FXI), were up 18% through June 2. Chinese A-shares, as measured by the Harvest CSI 300 China A Shares ETF (ASHR), have done even better, up 40%. Russian stocks, as measured by the Market Vectors Russia ETF (RSX), were up 25% through June 2, and even poor, hapless Argentina, as measured by the Global X MSCI Argentina ETF (ARGT), was up a good 15%.
Yet, the iShares MSCI Emerging Markets ETF (EEM) is up a much-less-impressive 4%. What gives?
There are a couple things to keep in mind here. To start, while emerging markets tend to get lumped into a single asset class by investors, we have to remember that every country has its own economy, currency, trading partners and political issues, and there is no reason to expect the stock markets in each to react the same way.
Consider crude oil prices. Lower crude prices are a boon to energy importers like India or Turkey, but they are harbinger of doom for the likes of Russia.
Secondly, the EEM ETF defines “emerging market” a little differently than you or I might. I’ll get to that shortly.
So, with that said, how do we explain EEM’s distinct lack of sizzle in a year when many emerging markets are doing well?
To answer that, let’s dig into EEM’s portfolio. 25% of EEM portfolio is invested in Chinese H-shares, giving the ETF decent exposure to one of the world’s hottest markets. But less than 4% of EEM is invested in Russia, and Argentina isn’t represented at all. EEM, due to liquidity and accessibility issues, also has no exposure to Chinese A-shares.
Furthermore, the EEM ETF is dominated by countries that I wouldn’t consider to be emerging markets. South Korea and Taiwan, two countries with Western living standards, make up a combined 27% of the portfolio. Taiwan Semiconductor (TSM) and Samsung (SSNLF) — two companies that sell their wares primarily to the developed west — are EEM’s two biggest holdings.
Greece — yes, GREECE — even has a small representation in EEM and, up until fairly recently, so did Israel.
Hey, I can certainly understand booting Greece out of the “big boy” developed-market indices. Greece is a basket case and doesn’t deserve to be included. Can you really call Greece — a European country and NATO member with one of the oldest populations in the world — an emerging market? “Emerging” implies development from a relatively low base, and that clearly isn’t the case with Greece.
So, is EEM a bad ETF?
Not necessarily.
It is what it is: A mixture of stocks from developing and mid-level developed countries with a heavy allocation to companies with a global clientele. If that is what you’re looking for, then EEM is a fine option.
But if you’re looking for real exposure to rising living standards in the developing world, something like the EG Shares Emerging Markets Consumer ETF (ECON) might be a far better bet. ECON has no exposure to developed markets like South Korea and Taiwan and focuses instead on the emerging-market companies that sell primarily to emerging market consumers.
Charles Lewis Sizemore, CFA, is the chief investment officer of investment firm Sizemore Capital Management. As of this writing, he was long ECON. Click here to receive his FREE weekly e-letter covering top market insights, trends, and the best stocks and ETFs to profit from today’s best global value plays.
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