S&P Sees Improvements in EM ETFs

In what has been a dismal year for emerging markets bond, currencies and ETFs, investors that previously poured cash into the developing world are looking for signs that things are getting better.

Savage declines in emerging markets equities have sent professional investors, from pension fund managers to registered investment advisors scampering for cover in U.S. and Japanese stocks.

While year-to-date returns for a broad swath of major diversified and single-country emerging markets ETFs are still dismal, some of those funds have been perking up in recent weeks and that could investors the opportunity to score some deals among developing world ETFs.

"With Fed tapering fears receding and major overseas central banks still firmly committed to stimulus, this more benign monetary policy outlook gives S&P Capital IQ greater confidence in market expectations for accelerating global growth heading into 2014," S&P Capital IQ said in a new research note.

Although plenty of emerging markets are seen as attractively valued, many of those countries have reasons, such as involuntary rate tightening, anti-government protests and plunging currencies, for those allegedly compelling valuations. Even some of those nations may hold promise for investors, according to S&P Capital IQ.

Analyst Alec Young, "notes that the developing world is seen growing 5.7% next year, up from an estimated 5% in 2013 as India, Brazil, Mexico, Korea, Indonesia, Russia, South Africa and Turkey are all seen quickening their pace of expansion," according to the research firm.

In terms of specific ETFs for investors to consider, S&P Capital IQ has an Overweight rating on the Vanguard FTSE Emerging Markets ETF (NYSE:VWO), the largest emerging markets ETF by assets. VWO, which recently parted ways with South Korean equities, is down 11.5 percent year-to-date. However, the fund has traded slightly higher over the past month.

VWO, which has an expense ratio of just 0.18 percent per year, allocates a combine 47.1 percent of its country weight to China, Brazil and Taiwan. South Africa and India round out the fund's top-five country exposures.

"S&P Capital IQ believes the EM equity risk-reward is becoming more compelling. EM equities recently traded at 9.6X 12-month forward EPS estimates, despite low double-digit EPS growth forecasts for 2014. As macroeconomic visibility improves, Young sees room for P/E expansion. Meanwhile, EM equity dividend yields are appealing, in S&P Capital IQ's view, at 3.1%, led by emerging Europe, the Middle East & Africa at 4.2%, while Latin America offers a 3.1% yield," said the research firm in the note.

The iShares Core MSCI Emerging Markets ETF (NYSE:IEMG) which BlackRock (NYSE:BLK) introduced last year as a lower-cost alternative to the iShares MSCI Emerging Markets Index Fund (NYSE:EEM) is another fund showing signs of life. IEMG is still down almost 11 percent this year, but like VWO, it has traded modestly higher over the past month.

S&P Capital IQ has a Marketweight rating on IEMG. China, South Korea and Taiwan combine for 44.6 percent of IEMG's country weight with Brazil and South Africa rounding out the top-five country allocations in the fund.

Income investors looking for emerging markets exposure should note developing world dividends are on the rise, offering some compensation for the higher volatility found in many of these markets. The WisdomTree Emerging Markets Equity Income Fund (NYSE:DEM), with a distribution yield of almost 7.5 percent, is the play on that theme. DEM, which was not mentioned in the S&P note, is down two percent in the past month.

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