Emerging market ETFs offer investors an opportunity to geographically diversify their holdings, but which of these two is the better buy?
Although they are significantly riskier than developed markets, emerging markets have been making headlines recently as potential alternatives for investors. Some of the risks pointed out include rising interest rates and debt levels, lower demand in developed countries, and the increased food insecurity caused by Russia’s invasion of Ukraine.
However, some analysts point out that these risks are already priced in, while stronger government balance sheets and monetary tightening in 2021 indicate these countries are getting ready for a rebound. It is advised that investors take a long-term view of 5-10 years at the minimum when investing in emerging markets. We investigate which of the following two emerging market ETFs is the better investment right now.
iShares Latin America 40 ETF bull vs bear arguments
The iShares Latin America 40 ETF (NYSEARCA: ILF) aims to track the investment results of the benchmark S&P Latin America 40 Index (INDEXSP: SPLAC), composed of the 40 largest Latin American equities. The ETF has lost 3.78% year-to-date (YTD), significantly less than indexes tracking U.S. equities. Over the past five years, the fund has experienced an average annual decline of 5.92% which does not provide much confidence in its ability to outperform the U.S. indexes.
The iShares Latin America 40 ETF may be attractive to investors looking to generate cash distributions higher than the average S&P 500 dividend yield of 1.4%-1.5%, as over the past 12 months, it had a yield of 7%. While this yield is still below the current inflation rate, the power of compounding should allow it to outperform the current levels of high inflation and beyond.
The largest sector in the fund, by weighting, is financials at 27.07%, which should profit from higher interest rates and the growing middle class as the Latin American economies continue to develop. Materials (26.61%) and energy (14.25%) are the next largest sectors in the fund and should profit from infrastructure projects and higher oil and commodity prices, which will likely remain over the coming years. The region is also home to vast deposits of materials required for the transition to a green economy, representing huge potential for future growth.
iShares MSCI Emerging Markets Asia ETF bull vs bear arguments
The iShares MSCI Emerging Markets Asia ETF (NASDAQ: EEMA) aims to track the investment returns of the benchmark MSCI EM Asia Custom Capped Index. The fund has experienced a much sharper decline than its Latin American counterpart, at 17.77% YTD. However, it has consistently outperformed it each year.
Over the past ten years, the fund has generated an average annual return of 5.83%, which is much greater than the returns of the Latin America ETF. However, it still underperforms many U.S. indexes. The Asia ETF also has a 12-month yield higher than the S&P 500 average, at 2.53%, thereby providing better cash returns to investors.
The sectoral weightings are very different between the two funds. The Latin America ETF represents more traditional and asset-heavy industries, whereas the Asia ETF represents more modern industries with the potential for higher growth rates. For example, information technology represents 23.34% of the Asia ETF while representing just 1.06% of the Latin America ETF. These firms experience larger share price declines in downturns but tend to rebound faster than traditional assets. Consumer discretionary represents 17.33% of the fund, which should provide some protection for investors if we enter a global recession.
The fund also has huge exposure to China, at 44.26%. This provides risks such as the current regulatory environment, strict measures against COVID-19, and an aging population. However, it provides great opportunities. Chinese restrictions are beginning to ease and it is forecast to become the largest economy in the world by 2050.
So which is the better buy right now?
While both funds carry significant risk, the iShares MSCI Emerging Markets Asia ETF faces an aging population in China and India, where it has the most exposure, along with geopolitical risks. The iShares Latin America 40 ETF has historically performed poorly but could potentially profit enormously from the green revolution while also providing a handsome dividend yield to investors.