2017 Outlook: Reading The Trends In Emerging Market ETFs

Investors are likely feeling emboldened by the strength of stocks as we close out the final month of 2016. Bullish enthusiasm can be infectious and now the race is on to determine which sectors or regions will be the top-performing areas of the market in 2017. While there is no way to know where the winner will be ahead of time, there is one noteworthy area that has piqued my interest – emerging markets.

As many of my readers know, I have been very cautious about international exposure for quite some time now. All the momentum has truly been with the broader U.S. stock market and emerging nations have demonstrated a multi-year underperformance cycle. Nevertheless, the chart of the Vanguard FTSE Emerging Market ETF (NYSE:VWO) has demonstrated several positive attributes over the last twelve months that are worth taking note of.

VWO is made up of a diversified portfolio of over 4,200 stocks of emerging market countries. This multi-cap index is dominated by China (28%), Taiwan (15.5%), and India (11.8%). Furthermore, VWO charges just a minimal 0.15% expense ratio for access to a truly broad index of international stocks.

Here are some of the things I like about VWO right now:

• Emerging market stocks bottomed in January along with the U.S. stock market and have now entered a new uptrend on a technical lookback.
• VWO has managed to break above and (mostly) stay above its long-term 200-day simple moving average throughout most of 2016. There were some minor tests, but those ultimately led to higher highs and higher lows over the last twelve months.
• While they have traveled a somewhat different path, this index is pacing the year-to-date gains of the SPDR S&P 500 ETF (NYSE:SPY) at +12% each.
• Emerging market nations are showing much greater relative momentum than Europe and many other flagging foreign indexes.
• The strength of the U.S. dollar has been a headwind for these stocks. A flat or falling U.S. dollar would ultimately add to current momentum.
• The rebound in commodity prices has been a big catalyst behind the surge in emerging market stocks in 2016. Renewed strength in energy and precious metals will likely add to this trend.
• The relative valuation gap between U.S. stocks and emerging market stocks over the last five years is a potential mean reversion opportunity.

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For investors that are looking to add international or emerging market exposure, my advice has always been to stay broad with your selections. I prefer to own multi-country, multi-sector, and multi-market cap opportunities like VWO or the iShares Core MSCI Emerging Markets ETF. There are also several low-cost ETF options available to tailor your exposure to a specific factor like dividends, low volatility, or other fundamental criteria. The screening features at ETF.com or ETFDB.com are very useful tools to hone in on funds that meet your needs.

It’s also worth pointing out that emerging market stocks won’t trade in a vacuum of indifference to the rest of the world. If we experience a slowdown in Europe or the U.S. next year, then these stocks will likely feel that pain as a global risk asset class. Your position sizing and risk philosophy should be driven by your existing asset allocation and how you plan on factoring this exposure into your portfolio.

While I don’t currently own direct emerging market exposure for my clients now, I am planning on closely watching this opportunity in the early start of 2017. I would prefer to be a buyer of new exposure on a dip and will look to slowly increase that over time if conditions are supportive of this theme versus other equity markets.

Disclosure : FMD Capital Management, its executives, and/or its clients June hold positions in the ETFs, mutual funds or any investment asset mentioned in this article. The commentary does not constitute individualized investment advice. The opinions offered herein are not personalized recommendations to buy, sell or hold securities.

Written By: David Fabian