Daily ETF Watch: VWO To Get China A-Shares

June 03, 2015

Vanguard plans to adopt new benchmarks for four of its international equity funds, including the Vanguard Emerging Markets ETF (VWO | C-86), to more faithfully reflect the current opportunity set in global stock markets, notably expanding access to stocks listed in mainland China.

 

The changes, which will take place in the third and fourth quarters of this year, significantly expand the coverage of the products in question in terms of depth and breadth, adding small-cap stocks and, for two of the funds, new geographical coverage.

 

Vanguard, laying out the changes in a press release this week, said that the added small-caps will make up 9 to 11 percent of each fund.

 

The changes, linked to methodology shifts by the indexing firm FTSE, will reverberate in the world of indexing, given how big Vanguard is. The Malvern, Pennsylvania-based firm now manages about $3 trillion in assets, making it the biggest mutual fund company in the world. A total of $147 billion in assets are affected, with just shy of $100 billion of that AUM tied to the ETF share class of the four funds.

 

Added Size And Country Exposure
For the $50.5 billion Vanguard Emerging Markets ETF (VWO | C-86), that means a transition from the FTSE Emerging Index to the FTSE Emerging Markets All Cap China A Inclusion Index. The fund, which currently holds 922 stocks, will add exposure to 1,845 small-cap stocks and 1,411 China A-share stocks. Those stocks represent 11.1 and 5.6 percent, respectively, of the new indexes.

 

In particular, the China A-shares market has been a hot topic these days due to its outperformance and the difficulty of gaining direct access, despite loosening regulations in China. Vanguard said in its press release that it had received a quota from the Chinese government that will allow it to invest directly in the A-shares market. It noted that it was the first major emerging market fund to provide exposure to A-shares.

 

The Vanguard Developed Markets ETF (VEA | A-94), which has $28.4 billion in assets, will drop the FTSE Developed ex North America Index and begin benchmarking itself to the FTSE Developed All Cap ex US Index. That means the fund is going to look less like the MSCI EAFE Index and the iShares MSCI EAFE ETF (EFA | A-93), which both exclude Canada and small-cap stocks. VEA used to track the MSCI EAFE before switching to a FTSE benchmark—which also excluded Canada—several years ago.

 

The new underlying index will have 2,248 small-cap stocks and 234 Canadian stocks. The small-cap stocks represent 9.9 percent of the new index, while the Canadian stocks will hold an 8.2 percent weighting among the other countries. Previously, excluding Canada meant that investors investing in VEA and a U.S. fund missed out on the performance of a country rich in natural resources. The fund currently holds 1,371 securities.

 

 

Embracing Small-Caps
Two of the funds mentioned in the press release, the $14.6 billion Vanguard FTSE Europe ETF (VGK | A-98) and the $3.4 billion Vanguard FTSE Pacific ETF (VPL | A-94), will simply add more small-caps with the transition to their new benchmarks. The funds currently have 508 and 832 holdings, respectively.

 

VGK’s move from the FTSE Developed Europe Index to the FTSE Developed Europe All Cap Index will add 724 small-caps to its coverage that represent 9 percent of the new index. VPL’s new FTSE Developed Asia Pacific All Cap Index will add 1,331 small-cap stocks to its overall exposure; the small-cap segment represents 9.4 percent of the new index.

 

Vanguard noted that the changes will increase the levels of diversification for all of the funds involved.

 

“The best proxy for a market is one that provides the most complete and comprehensive market-cap-weighted coverage, which is why we believe these moves are in the best interests of investors,” said Vanguard CEO Bill McNabb.

 

The fund provider already has two other “all cap” funds trading, the Vanguard Total International Stock ETF (VXUS | A-97) and the Vanguard Total World Stock ETF (VTI | A-100). Both of those funds include small-caps and combine exposure to developed as well as emerging markets. VXUS excludes the U.S., while VTI includes it. It should be noted that neither fund includes the China A-shares market.

 

Filings from Vanguard for VEA and the other three funds said the transition would be implemented in the third or fourth quarters of this year.

 

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