Patience Required With Emerging Markets ETFs


It is now mid-July and at this point, it is fair to say most investors know 2013 has been a rough year for emerging marketsETFs. Select single-country funds have been disasters and the major diversified emerging marketsETFshave not been picnics, either. TheVanguard FTSE Emerging MarketsETF(NYSE:VWO), theiSharesMSCIEmerging Markets Index Fund(NYSE:EEM) and theWisdomTreeEmerging Markets Equity Income Fund(NYSE:DEM) are all saddled with large year-to-date losses.

Investors' patience with thoseETFsand other funds is likely fried. They probably do not want to hear about investing for the long-term when so many emerging marketsETFshave disappointed in significant fashion relative to saferU.S. stocks.

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The reality is patience is required withETFstracking developing world stocks and while investors do not need to rush into the aforementioned funds right now, there are some signs that 2014 could be a stronger year for emerging markets equities and not just becausescores of these markets are cheap on valuation.

Dividends, a growing part of the emerging markets investment thesis, are improving. On a historical basis, a year following a "big" or elevated yield year, which 2013 is shaping up to be,can prove rewarding for emerging markets investors.

In March,WisdomTreeResearch Director Jeremy Schwartz noted that following high dividend years, theMSCIEmerging Markets Index returned an average of 33.03 percent compared to its average 24-year return of 17.47 percent.

RELATED:Look to Malaysia For EMETFExposure

The good news is emerging markets dividends showed signs of growth for the one-year period ending May 31, a factor that could buoy the likes ofVWO, but in particular the dividend-focusedWisdomTreeEmerging Markets Equity Income Fund, which has a distribution yield of 7.5 percent.

Five of DEM's top-10 country weights showed double-digit dividend growth over the past year, lead by 35.2 percent dividend growth in Thailand, theETF'ssixth-largest country weight. More importantly, China is now the largest emerging markets dividend payer in dollar terms with a dividend stream of almost $27 billion,according toWisdomTreedata.

The best year-over-year dividend growth among the fourBRICnations came by way of Russia,a country that desperately wants to increaseits allure as a dividend destination. According toWisdomTree, Russia's dividend stream jumped almost 29 percent for the year ending May 31.

Russia and China are DEM's two largest country allocations, combining for 35.5 percent of theETF'sweight.

"We believe that it is particularly important to pay attention to signals such as this in the current environment, where equity markets such as the United States or Japan are performing so strongly, while emerging market equities have failed to keep pace but have retained their economic growth advantage over developed countries. The relatively high trailing 12-month dividend yields across companies are apparent when we look at the 10 largest contributors to the EM Dividend Stream," according to a research paper published byWisdomTree'sSchwartz and analysts ChristopherGannattiand Tripp Zimmerman.

While DEM has been criticized by some analysts for a large weight to Russia compared toVWOandEEMwith those naysayers saying higher exposure to Russia means increased volatility for DEM, impressive is the fact the Russian dividends have grown even as state-run gas giantGazprom'sdividend stream has fallen and as other large Russian firm's have rebuffedPresident Vladimir Putin plansto force dividend payouts equivalent to 25 percent of net income.

Seven of the top-10 holdings in theWisdomTreeEmerging Markets Equity Income Index, DEM's underlying index, had higher dividend streams at the end of May 2013 than they did at the end of May 2012.GazpromandBancodeBrasilwere the only members with lower dividends whileTaiwan Semiconductor(NYSE:TSM) was flat, according to the data.

As for how things may be shaping for 2014, remembering that a big dividend for emerging markets can be followed by a year of impressive returns, the average yield on the top-10 holdings in DEM's index rose 80 basis, or 15 percent, to 5.6 percent for the year ending May 31. For example, shares of Brazilian mining giantVale(NYSE:VALE) currently yield 5.6 percent, up from 4.5 percent on May 31, 2012.OAORosneft, Russia's largest oil company, has seen its yield climb nearly 400 basis points. Those stocks combine for nearly 8.3 percent of DEM's weight.

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