(The following story was updated to clarify that the proposed funds won't avoid big firms, but rather will include small-, mid-sized firms in addition to larger-cap names. We regret the misleading information.)
Emerging Global, the ETF firm focused only on developing markets, filed regulatory paperwork to add to its lineup three separate core funds that will span the capitalization spectrum and probably include small and midsized companies, a move addressing its concerns about the shortcomings of existing broad emerging market ETFs.
One is a broad equity fund, the second is an equity fund designed to deliver relatively high dividends and the third is a fund-of-funds equities and fixed-income blend that can invest at least a quarter of its assets—but most likely 30 percent of its assets—in other ETFs.
The ETFs and their proposed net expense ratios, after fee waivers, are as follows:
- EGShares Emerging Markets Core ETF, with a net expense ratio of 0.70 percent
- EGShares Emerging Markets Core Dividend ETF, with a net expense ratio of 0.70 percent
- EGShares Emerging Markets Core Balanced ETF, with a net expense ratio of 0.60 percent
After publicly calling into question MSCI’s emerging market classifications in a recent white paper, New York-based Emerging Global seems to be putting its money where its mouth is by serving up riffs on emerging markets that embrace local companies and that steer clear of huge multinational companies based in countries the firm says aren’t even emerging anymore.
Emerging global said the funds will defined its small- and midcap parameters by saying in the prospectus that constituent companies in each of the three proposed funds must have market capitalizations of at least $1 billion. The first “Core” fund has a market-cap-weighted index, while the “Core Dividend ETF” and the “Core Balanced ETF” are both based on equal-weighted indexes.
Each fund will be able to invest in common shares traded on local exchanges or in American depositary receipts (ADRs) and global depositary receipts (GDRs), and the Core Balanced ETF, as noted, is likely to invest 30 percent of its assets in other ETFs.
CME/Dow Jones Indexes will be the arbiter of which emerging markets companies make the cut in each fund, according to the prospectus, which didn’t disclose tickers for the funds, but did say they will be listed on Arca, the New York Stock Exchange’s electronic trading platform.
The Core ETF will be based on a market-capitalization-weighted benchmark comprising 133 leading companies in all industries in emerging markets under the CME/Dow Jones Indexes rubric.
The Core Dividend ETF and the Core Balanced ETF that blend debt and equity are both equal-weighted and are both based on indexes comprising 50 companies that together have a higher dividend yield than the MSCI Emerging Markets Index, the prospectus said.
The Beef With MSCI
Emerging Global has a problem with the large-cap tilt of funds that use the MSCI index, such as the $48.77 billion Vanguard MSCI Emerging Markets ETF (NYSEArca: VWO) saying it exposes investors more to big multinational companies whose success is tied to the global economy rather than to local economies where the true growth stories can be found.
A company like South Korea-based Samsung, a huge global brand headquartered in a clearly middle class society, is probably the quintessence of Emerging Global’s frustration with MSCI’s classification system.
Appropriately enough, Samsung is the single biggest holding in the broad MSCI developing markets benchmark—3.39 percent of the $32.68 billion iShares MSCI Emerging Market Index Fund (NYSEArca: EEM) is in Samsung equity—and South Korea is the second-biggest country in the portfolio, at a nearly 17.5 percent weighting, according to iShares’ website.
And fittingly enough, MSCI last week reaffirmed South Korea’s status as an emerging markets country, saying issues surrounding currency convertibility and equity settlement across multiple accounts issues kept it from losing its emerging market status.
That said, South Korea remains under review for possible promotion to developed-market status by MSCI.
The next MSCI review is in June 2013 and, under MSCI’s system, any classification changes are implemented over a 12-month period. That means that the possibility of dropping South Korea from any emerging markets portfolio can’t be a reality until at least June 2014.
Our annual fixed-income conference is coming up in a little more than a week and I can’t wait.
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