How about non-U.S. low volatility funds? Around 18 months ago, I introduced three low volatility emerging market [EM] ETFs (A Comparison Of 3 Emerging Market Low Volatility ETFs). One of these, the ETF formerly known as EGShares Low Volatility EM Dividend ETF, changed investment mandate to focus on quality dividends, and is now known as the EGShares EM Quality Dividend ETF (NYSEARCA:HILO).
The remaining two low volatility EM ETFs are the PowerShares S&P Emerging Markets Low Volatility Portfolio (NYSEARCA:EELV), which tracks the S&P Emerging BMI Plus LargeMid Cap Index and iShares MSCI Emerging Markets Minimum Volatility (NYSEARCA:EEMV), which tracks the MSCI Emerging Markets Minimum Volatility Index. How have they performed in the last 18 months?
Their total return performance over the since my last article was published is shown below, together with the benchmark iShares MSCI Emerging Markets ETF (NYSEARCA:EEM).
We can see that the two low volatility EM funds have pretty much moved in lockstep with the benchmark, with EEMV coming out slightly ahead at -5.43% over the past 18 months, compared to -10.6% for EELV and -9.45% for the benchmark EEM. As I mentioned in my Dec. 2014 article, EEMV was my favorite low volatility EM ETF out of the three, and it is pleasing to see that it has outperformed both EELV and EEM since then. (Interested readers may refer to "In Defense Of iShares MSCI Emerging Markets Minimum Volatility ETF" for a rebuttal to another author's critique of this fund).
As shown in the chart below, both EEMV and EELV have succeeded in their investment mandate of low volatility. Both funds were less volatile than the benchmark over the past 18 months, with EEMV being slightly less volatile than EELV.
The lower volatility of the two EM funds across several metrics over the past two years is corroborated by data from InvestSpy. The data also confirms that EEMV is slightly less volatile than EELV.
|Ticker||Annualized Volatility||Beta||Daily VaR (99%)||Max Drawdown||Total Return|
With U.S. low volatility stocks becoming slightly overvalued, investors may be concerned about whether the same is happening to EM low volatility stocks. The following data shows the valuation and growth metrics for the three EM funds, together with SPY as a comparison (source: Morningstar).
|Dividend Yield %||3.73%||3.81%||3.67%||2.35%|
|Projected Earnings Growth %||9.28||10.09||12.17||8.79|
|Historical Earnings Growth %||4.64||1.63||-64.75||5.81|
|Sales Growth %||4.06||-0.06||-10.77||1.55|
|Cash-flow Growth %||3.64||5.42||5.77||1.36|
|Book-value Growth %||4.47||5.03||-23.3||3.11|
We can see from the above chart that EEMV and EELV are indeed a bit more pricey than EEM, similar to what was observed for these funds 18 months ago. However, all three EM funds are significantly cheaper than SPY.
The below table (source: ETF Research Center) shows that the two low volatility EM funds have only 35% overlap. EEM has 29% overlap with EEMV and 24% overlap with EELV.
The top five country weights for each ETF is listed below (source: ETFdb):
- EEM: China (26%), South Korea (15%), Taiwan (12%), Malaysia (8%), Thailand (6%)
- EEMV: China (21%), Taiwan (17%), South Korea (11%), India (8%), Brazil (7%)
- EELV: Taiwan (20%), Malaysia (15%), Mexico (11%), Thailand (10%), South Korea (7%)
Analysis of the above weights show that EEM is the most Asian-focused fund, with all top 5 country weights coming from Asia. EEMV has Brazil as its 5th largest country weight while for EELV, Mexico comes in at 3rd place. The most striking feature about EELV is that China only takes up 3% of its portfolio.
Discussion and outlook
Since my previous article on the low volatility EM funds 18 months ago, the performance discrepancy between U.S. and EM stocks has widened even further:
The total return of U.S. stocks since the financial crisis is now nearly triple that of EM stocks:
EM equities are even cheaper now than 18 months ago (source: Morningstar):
On the whole, EM stocks are 34% cheaper than U.S. stocks on a P/E basis, 51% cheaper by P/B, 39% cheaper by P/S and 61% cheaper by P/CF. Will this low valuation eventually lead to higher returns for EM stocks?
Of course, the low volatility EM ETFs highlighted here are a bit more expensive than the broad market EEM, but they are still considerably cheaper than domestic stocks.
The BAML survey of global fund managers has indicated that managers are just now rotating into EM equities after over a year of being underweight in this region. This could be viewed either as an indicator of upward momentum, or alternatively as a contrarian signal.
EEMV remains my preferred choice for an investor who wishes to obtain some emerging market exposure, but with lower volatility. I am less keen on EELV due to its weaker historical performance and its surprisingly low allocation to China, which I think is sub-optimal.
Disclosure: I am/we are long EEMV.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.