Emerging Market ETFs Buck Flows Trend

February 10, 2014

Not all emerging market funds are following the hot-money crowd to the exits.

Investors are yanking money out of emerging market funds left and right, prompting comments from the likes of Mark Mobius and Matt Hougan.

Yet amid this downturn—our MSCI benchmark for the space is down about 10 percent for the past 12 months—investors have quietly and consistently put significant money into a handful of broad emerging markets ETFs.

What gives? Even two funds from the same issuer that track practically identical indexes are telling different tales regarding net flows.

The iShares Core MSCI Emerging Markets ETF (IEMG | B-98) enjoyed $3 billion in net inflows over the past 12 months. It tracks a more comprehensive version of the index that underlies the hugely popular iShares MSCI Emerging Markets ETF (EEM | B-100), which suffered $15 billion in net outflows for the same period.

The most obvious explanation for the divergence in investor sentiment is cost. IEMG, part of iShares’ “Core” suite unveiled in October 2012, has an annual expense ratio of 18 basis points, or $18 for each $10,000 invested, compared with EEM’s 69 basis points. That’s a hefty savings, although EEM has the clear edge on trading costs.

In fact, EEM’s phenomenal liquidity itself may be the real key to understanding the difference in flows. I’d argue simply that EEM is the hot-money vehicle used by hedge funds and institutions to rush in and out of emerging markets as short-term conditions dictate. Check out this screen grab from our website ETF.com showing net flows for EEM:

EEM_Flows

In contrast, IEMG is marketed—correctly, in my view—as a long-term core allocation.

The underlying index, while similar to EEM’s, reaches deeper into the small-cap space. This makes it more reflective of the real market, which is a benefit for long-term exposure. The trade-off is that it’s a bit harder to trade.

IEMG’s assets are “sticky” because investors are here for the long haul. I’d guess that advisors and RIAs buy IEMG on behalf of their clients and then encourage their clients to stay the course, through what so far has been a tolerable correction. Some advisors with the fortitude may even be buying on the dip. The ETF.com fund flows tool shows nothing but inflows over the past 12 months for IEMG:

 

 

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