Why One Big Emerging Market ETF Out-Performs

Up until a few months ago, the portfolios of the two largest emerging market exchange traded funds -- with a combined asset base of nearly $100 billion -- were kissing cousins, as they both tracked the same benchmark index. But as of this summer ETF investors need to understand that the two behemoths now have very different portfolios.

The $51 billion Vanguard FTSE Emerging Market ETF (VWO), which previously tracked the same MSCI index as the $45 billion iShares MSCI Emerging Markets ETF (EEM) has, as its name implies, migrated over to a FTSE emerging markets index.

The big difference is that the FTSE index gods don’t consider South Korea an emerging market—they switched South Korea over to the developed side of the ledger in late 2009. So the Vanguard FTSE Emerging Market ETF has no money invested in South Korea. The MSCI index gatekeepers maintain that South Korea is still an emerging market. Thus, the iShares MSCI Emerging Market ETF has nearly 16% invested in Korea. It’s largest holding is Samsung Electronic (SSNLF).

The performance of the two emerging market ETFs has in fact diverged since Vanguard completed its migration over to FTSE at the end of the second quarter:

EEM Chart

EEM data by YCharts

You can use equity research tools to compare the two ETFs. And this chart of the iShares MSCI South Korea ETF (EWY) pretty much explains the differential:

EWY Chart

EWY data by YCharts

One other important difference in the two broad EM portfolios that has always existed is cost. The Vanguard FTSE Emerging Markets ETF charges an annual expense ratio of 0.18%. The iShares MSCI Emerging Markets ETF charges 0.69%. For the fee-conscious who want South Korea in their emerging-market allocation, keeping 85% of your EM portfolio in the cheaper Vanguard ETF and the remaining 15% in the iShares MSCI South Korea ETF works out to your advantage. The iShares MSCI South Korea ETF has an 0.61% annual expense ratio, compared to the 0.69% for the broad iShares EM fund. That pricing differential is no doubt a function of the fact that the South Korean market is indeed a lot more mature -- dare we say developed -- than traditional emerging markets.

Emerging markets have performed so poorly, and thus trade at lower multiples, that YCharts wondered earlier this week if they weren't too beaten-up: emerging markets – time to buy?

Carla Fried, a senior contributing editor at ycharts.com, has covered investing for more than 25 years. Her work appears in The New York Times, Bloomberg.com and Money Magazine. She can be reached at editor@ycharts.com. Read the RIABiz profile of YCharts. You can also request a demonstration of YCharts Platinum.

Read more articles about: Investing Ideas  ETFs   fees   emerging markets   

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