In a year like 2016 when investors have preferred the relative safety of fixed-income ETFs to the risk of equity ETFs—bond funds have gathered the lion’s share of ETF asset flows this year—low-vol funds may offer an appealing level of equity risk in an environment where risk-on is getting so little love.
In emerging markets, there are two main ETFs populating this segment: the iShares MSCI Emerging Markets Minimum Volatility Fund (EEMV | B-70), with $3.3 billion in assets; and the PowerShares S&P Emerging Markets Low Volatility Fund (EELV | C-62), with $175 million in AUM. Both have been around for the better part of five years.
And in the past 12 months, they’ve delivered very similar returns, as the chart below shows:
But so far in 2016, there’s been a growing divergence between EEMV and EELV, with one notably outperforming the other:
Charts courtesy of StockCharts.com
The key for picking which ETF is right for you lies in understanding the differences between the funds. Here are four mains differences to consider:
1. Different equity beta
EEMV owns emerging market equities that, in the aggregate, are expected to be less volatile than the broader emerging equity space.
And compared with the S&P 500, EEMV has an equity beta of 0.95—a beta of 1 means the securities in the portfolio tend to move in tandem with the broad market.
Relative to the MSCI Emerging Markets Investable Market Index, EEMV has an even lower beta of 0.79, according to FactSet data. That means the fund’s returns have noticeably lower sensitivity to what happens in the broader benchmark.
By comparison, EELV, which owns the 200 least volatile stocks of the S&P Emerging BMI Plus Large-Mid Cap Index over the past 12 months, has a beta of 1.10 relative to the MSCI Emerging Markets Investable Market Index, according to FactSet data. That relatively high beta can be tied to the fund’s smaller-cap tilt.
The focus on lower-volatility stocks is designed to offer investors a smoother ride—one that gives up some of the upside for additional protection on the downside. EEMV’s beta is lower than that of EELV.
2. Country and sector weightings significantly different
EEMV’s top 10 securities each weigh about 1.5%, and China is the portfolio’s biggest country allocation, at 18.3%, followed by Taiwan at 17% and South Korea at 12%. So far in 2016, China is one of the worst-performing stock markets globally, with Shanghai stocks down about 20% and Hong Kong stocks down about 8%.
EELV holds Taiwan as its biggest allocation, at 20% of the portfolio. Taiwan equities, too, are marginally lower in 2016, but only marginally. EELV’s two other top country allocations—Malaysia at 14% and Mexico at 11%—are both markets that are in the positive year-to-date.
In EELV, China is the smallest country allocations, at only 3.5%.
From a sector perspective, EELV is heavily tilted toward financials at a third of the portfolio—33%. Consumer staples comes in second, at 13%.
iShares’ EEMV also has financials at the top, but only at 26%, followed by information technology at 15% and telecommunications at 12%.
For comparison, the broad MSCI EM Index—representing the broad emerging market equity segment—holds financials at about 27%, followed by info tech at 20% and consumer discretionary at about 10%.
3. Costs similar, but not really
EEMV costs a net of 0.25% in expense ratio thanks to fee waivers totaling 0.45%. That means, according to the prospectus, the fund actually costs 0.70% but iShares has instituted a waiver, so investors pay only 0.25% for the time being.
EELV costs a similar 0.29% in net expense ratio, or $29 per $10,000 invested.
The key difference here is that EEMV, with $3.3 billion in total assets, traded on average some $39 million a day with an average spread of only 0.04%. That puts the fund’s total cost of ownership at 0.29%.
EELV, meanwhile, has only $175 million in assets, trading on average just under $2 million a day at an average spread of 0.24%. That puts this fund’s total cost of ownership at about $53 per $10,000 invested.
4. Selection & weighting methodologies
EELV uses a plain-vanilla selection process and weights its securities based on volatility, focusing on the least volatile stocks in the segment. The underlying benchmark focuses on the net return of the securities, looking for those with the lowest up-and-down price fluctuations—or volatility.
The mix is rebalanced and reconstituted quarterly.
EEMV uses a more multifactor selection and weighting approach to offer the absolute lowest risk relative to the broader MSCI EM index. Its focus on volatility also includes single security, country and sector constraints. The mix is rebalanced semiannually.
Looking Under The Hood
We often are reminded of the importance of knowing what you own. Here, both EEMV and EELV do a good job at offering lower-volatility takes on emerging market equities of 20-plus countries.
“While the two funds fall into the same segment, they have somewhat different construction methodologies and Fit characteristics that might explain the deviations,” Stephen Vasend, ETF analyst with FactSet, said.
“Historically, these funds have had differences in performance of about 2%, so it isn’t just a year-to-date divergence,” he added.
Understanding what can set their return streams apart from time to time can help you decide which ETF best fits your needs, and which one better aligns with your long-term goals.
Contact Cinthia Murphy at [email protected].