Zeroing In On Thematic Int'l ETFs

When it comes to international equity ETFs, investors are familiar with dividing their portfolio into developed or emerging market allocations.  

The largest ETFs in this space fall along these lines, with the Vanguard FTSE Developed Markets ETF (VEA) and the Vanguard FTSE Emerging Markets ETF (VWO) being among the biggest in the international ETF category. 

For those who want to get more granular, country-specific ETFs are also available, the largest of which is the iShares MSCI Japan ETF (EWJ), which currently stands at $11.2 billion in assets under management.  

In total, there are 172 equity ETFs that are focused on a specific country. The vast majority of these are total market funds, meaning they provide broad, cap-weighted exposure to that country’s equities. 

Broad Or Narrow? 

Broad international ETFs and country-specific ETFs should be viewed as two separate tools in a toolbox. Funds like VEA and VWO should be used within the core of the portfolio, providing broad, diversified exposure to international equities.  
 
Broad ETFs like these tend to be significantly cheaper than country-specific ETFs. As an example, VEA is only one-tenth the cost of EWJ. 

Courtesy of FactSet

Performance can also deviate from the broadly diversified benchmark, even if the country is a larger weight in the index. As an example, the United Kingdom accounts for nearly 13% of VEA. 

Courtesy of FactSet

But the performance of the iShares MSCI United Kingdom ETF (EWU) hasn’t kept pace with VEA since markets plunged in early 2020, as lockdowns and restrictions in response to COVID-19 have hampered the economy. 

The Other Side Of The Coin 
 
Of course, that tracking error can work both ways. There can be periods where country-specific funds outperform the broad market, and the year-to-date performance so far gives us a clear example. 

The iShares MSCI Brazil ETF (EWZ) has gained 17.6% so far in 2022, while VWO is barely positive, gaining only 0.4% since the beginning of the year. 

Since these country ETFs lack the diversification of funds like VEA and VWO, they are best suited for short-term or tactical plays rather than being the core of an international equity allocation within the portfolio. 

Narrowing In Even Further 

A subset of country ETFs are even more granular, providing thematic or sector exposure to a specific country. For example, Global X has a suite of China-focused funds that provide exposure to various sectors, including the Global X MSCI China Consumer Discretionary ETF (CHIQ) and the Global X MSCI China Financials ETF (CHIX). 

In fact, many of the thematic country ETFs out there offer exposure to Chinese equities. But after last year’s regulatory crackdown, India might gain more focus from issuers and investors alike. The country is the second largest weighting in VWO, behind China. 

Most recently, VanEck launched the VanEck Digital India ETF (DGIN), which seeks to capitalize on Indian citizens gaining access to digital services. Other thematic India ETFs include the Columbia India Consumer ETF (INCO) and the Nifty India Financials ETF (INDF). 

Amit Anand, co-founder of INDF, believes that these more targeted ETFs can have appeal in specific market environments.  

“When you look at India, one of the cons of the broad-based ETF is [that] India’s not a very friendly destination when inflation is high,” he explained. “Some countries benefit from high inflation, like countries that are oil producers. India is not one of them.”  

“[For investors who] want to stay invested in the story, that’s where INDF comes in, a sector that benefits from rising rates,” Anand added. 

How To Use These Products

Similar to other thematic ETFs, investors should be aware of the risk in investing in a narrow scope of stocks. While specific market environments or events can benefit a particular theme or sector, as mentioned by Anand, the stocks within these ETFs have a higher level of correlation with one another and can fall in tandem as well. 

However, using these funds as a “satellite” position can minimize risk while potentially adding alpha to the more widely used broad-based ETFs like VEA and VWO. 

Contact Jessica Ferringer at [email protected] or follow her on Twitter