An Emerging Markets ETF for the Long Haul

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Long Haul Truck

Over the last nine years, which equity ETF launched in the U.S. attracted the most investors dollars in its first year?*

If I told you it was an emerging markets (EM) stock fund, would it surprise you?  Probably, considering the EM equity category is in the red for the year.  Despite a two month turnaround in September and October, EM equity ETFs reverted to their year-to-date trend in November and posted nearly $5 billion in outflows.  The category is currently down $10 billion for the year.

And yet, the iShares Core MSCI Emerging Markets ETF ( IEMG ) has experienced positive flows month after month in 2013, gathering $2.6 billion this year and a total of more than $2.8 billion since its launch in October of last year.  With so many investors bearish on EM equities, what has made some bullish on this fund in particular?

In a word: exposure.   The fund aims to track the MSCI Emerging Markets IMI Index, which boasts the broadest and most diversified selection of EM equities.  As part of the MSCI IMI (Investable Market Index) series , the index is designed to represent 99% of the investable market (as defined by MSCI).  As a result, it includes more stocks than any other broad-based EM equity index out there (currently 2,617, more than four times as many as the standard MSCI Emerging Markets Index).

But what makes this index so compelling is not just the large number of stocks it includes.  Because the IMI indexes try to provide comprehensive market coverage, they include large, mid and small cap stocks, while the standard MSCI indexes only include large and mid cap stocks.  This is important because small caps can provide powerful diversification benefits and the potential for enhanced returns.

For example, over the past five years small cap stocks have significantly outperformed large caps (as they have historically over long periods of time ).  In the chart below, you can see how small caps helped the MSCI EM IMI Index outperform the standard MSCI EM Index by 67 basis points on an annualized basis.

MSCI Annualized Returns

Source: MSCI as of 12/5/13

But beyond the exposure story, I think that IEMG's early success illustrates that investors are starting to think about emerging markets in a different way.  Despite the fact that many investors pulled back from EM this year, some have started to view it as an essential component of their core portfolio .  Those who want to maintain an allocation to EM - even during a turbulent time - are starting to seek out new ways of doing so , for example through the increased diversification of IEMG.

Which is one of the great benefits of ETFs - no matter what your objective, there's likely a fund out there that can help you achieve it.

Dodd Kittsley, CFA, is the Global Head of ETP Research for BlackRock and a regular contributor to the The Blog . You can find more of his posts  here .

*Source: BlackRock ETP Research

In addition to the normal risks associated with investing, international investments may involve risk of capital loss from unfavorable fluctuation in currency values, from differences in generally accepted accounting principles or from economic or political instability in other nations. Emerging markets involve heightened risks related to the same factors as well as increased volatility and lower trading volume. Investments in smaller companies typically exhibit higher volatility . Diversification may not protect against market risk or loss of principal.



The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.



This article appears in: Investing , ETFs

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