While Greece's financial mess is less than ideal for the euro
zone, the relative size of the country's GDP and debt burden have
put some investors at ease. While many wealthy EU members have
expressed publicly their opposition to a Greek bailout, such a move
would be very doable. The problem is that Greece isn't the only
trouble spot, and providing sufficient aid to other distressed
economies would be much more of a challenge.
Spain is the euro zone's fourth largest economy, and its
economic troubles, by some measures, make Greece look like a
thriving superpower. Unemployment is 19%, and youth unemployment is
twice that level, casualties of a battered construction sector. GDP
contracted by 3.6%
in 2009, and is expected to decline again in 2010. Massive stimulus
spending has caused the budget deficit to swell to more than 11% of
GDP, far above euro zone limits and on par with Greece's crumbling
With Spain's economy at a critical juncture, Spanish equities
have seen a jump in trading volumes, as some investors distance
themselves and others race in sensing short-term opportunities,
both long and short. The iShares MSCI Spain Index Fund (
) has sunk by about 17% this year, and trading volumes have surged
in recent weeks.
EWP is composed of about 30 publicly-traded Spanish securities,
and is the only U.S.-listed ETF to focus exclusively on Spanish
markets. But for investors who think they're making a play on the
local Spanish economy through this fund, a look under the hood may
reveal some interesting truths.
The index to which EWP is a cap-weighted benchmark that aims to
capture 85% of the publicly available market capitalization of the
Spanish market. As such, its largest holdings are in mega-cap
Spanish companies. While these companies are listed on Spanish
exchanges, many of them derive only a portion of their revenues
within Spain. While this isn't unusual-many European companies
generate revenues from throughout the region-it is interesting to
note that a significant portion of profits of major Spanish
companies comes from developing markets outside of Europe.
Banco Santander (
), which makes up nearly a quarter of EWP, generated about 36% of
its profits from South America in 2009, compared to only about 26%
), which makes up about 18% of the Spain ETF, derives about 40% of
earnings from Brazil and other South American markets. Banco Bilbao
), EWP's third largest holding, makes more than half of its income
from the South America.
Iberdrola Group (
), EWP's fifth largest holding at about 5% of assets, generates
only about 40% of its revenue in Spain, with the UK, U.S., and
South America accounting for the rest.
EWP is by no means a flawed product. Far from it in fact. It has
accomplished its stated objective-to track the performance of the
MSCI Spain Index-with impressive efficiency. The expense ratio of
56 basis points is a bargain for international exposure, and the
liquidity of the fund's shares is sufficient to maintain a tight
But any investor who thinks he or she is making a pure play on
the local Spanish economy should take a closer look. EWP is more
likely to be impacted by monetary policies in Sao Paulo than by
unemployment in Sevilla.
EWP isn't alone. Most international ETFs available to U.S.
investors are tilted towards mega-cap stocks that maintain global
operations and generate significant revenues beyond their home
country. Virtually every company in the S&P 500 SPDR (
) is a multi-national firm that depends more and more on demand
from China and other emerging markets to drive growth.
So the bad news is that there are some limitations to gaining
international exposure through ETFs. But the good news is that
there is significant room for expansion in this corner of the ETF
industry. A handful of funds offering exposure to small cap
companies in international markets have already been launched,
including Van Eck's Brazil Small-Cap ETF (
), Claymore's China Small Cap Index ETF (
), and iShares' MSCI EAFE Small Cap Index Fund (
). An in-depth analysis of the performance of these small cap
international ETFs relative to their mega-cap counterparts reveals,
not surprisingly, that there are very different risk and return
profiles between the two.
The lesson-as always-is to know what you own.
No positions at time of writing.
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