A Long/Short ETF Portfolio For Emerging Markets

Some people complain about the proliferation of exchange traded funds. But the more we have the better, I believe. Investors can then put more ideas into action.

Take, for example, the construction of a long-short portfolio across emerging stock markets. The basic idea: short countries with weak fundamentals and go long countries with strong fundamentals (i.e. set up a “hedge-fund” approach that is neutral with respect to the overall direction of emerging stock markets).

Countries with large current account deficits relative to GDP are: Hungary (-8%), Turkey (-7%), South Africa (-4%), and India (-3%). Trends in their domestic demand are also the most negative (monetary tightening, excessive credit, slipping leading indicators). Countries with the most positive trends in domestic demand are Brazil, Mexico, Indonesia, and Singapore (data from BCA Research).

Unfortunately, there are only ETFs available to set up a partial long-short portfolio, as shown below. If we had more country ETFs, we could pursue a more balanced approach:

iShares MSCI South Africa Index (EZA) - short
iShares MSCI Mexico Index (EWW) - long
iShares MSCI Singapore Index (EWS) - long
iShares MSCI Brazil Index (EWZ) - long

Comments

[Panskeptic:]

You really want to short India? What time horizon are we talking here?

2006 Nov 07 12:13 PM

[Tim Moore:]

Living just to its south and watching developments there I would hesitate to go long Indonesia. The combination of increasing fundamental Islam with high levels of systemic corruption worry me.

2006 Nov 07 04:34 PM

[Tim Moore:]

Fortune magazine in Sept '06 called Turkey a buy - you can get CEF exposure through TKF see etf.seekingalpha.com/a...

2006 Nov 07 04:37 PM

[Geoff Consi...:]

An investor would have to be nuts to go long/short emerging markets unless he or she has really solid quantitative tools to help estimate risk. You could easily build a portfolio that will have enormous risk. You would need tools that generate forward-looking volatility estimates for all of these countries. Yipes. The idea of people trying this without being exceptionally capable quantitatively is really scary. What is the risk of being long Brazil and short India? Etc. See this article for some plausible risk outlooks for emerging markets:

etf.seekingalpha.com/a...

On top of risk, you would need to capture correlations. There is a lot of basis risk here.

2006 Nov 08 12:14 PM

[Chamois16:]

IF one wanted to do this, there are closed-end funds for India, Indonesia and Turkey that are as good and perhaps better vehicles than index funds, were such available. Going short in any of these places is very risky. I certainly would not attempt it on the basis of current account deficits

2006 Nov 11 10:45 AM