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Asia Region ETFs October 02, 2009

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In my recent review of China ETFs, I looked at the confusion that the range of indices and markets there can cause. But that’s nothing compared to the maze that awaits investors picking a regional Asia ETF. At present there are 16 European-listed funds in this category, many of which have little more in common than having Asia in the title.

The most popular by far is the iShares MSCI AC Far East ex-Japan ETF, with over €1 billion in assets under management. Like most of the iShares range, this is a physically replicated product that pays quarterly dividends, with a total expense ratio (TER) of 0.74%. The underlying index of around 480 large and mid-cap stocks includes China, Hong Kong, Indonesia, Korea, Malaysia, the Philippines, Singapore, Taiwan and Thailand. The basket is dominated by China (30%), Korea (20%), Taiwan (19%) and Hong Kong (14%); the biggest sector is financials (34%) followed by technology (17%).

Investors should note a complication that applies to this and most other Asia ETFs when it comes to China and Hong Kong weightings. The China portion represents Hong Kong-listed shares of firms incorporated in mainland China (known as H shares), while the Hong Kong portion includes many huge mainland firms that are incorporated in Hong Kong (known as red chips). So the ‘Hong Kong’ weighting will usually reflect exposure to the mainland as well as Hong Kong’s local firms.

iShares also offers a companion product with a focus on smaller firms, which tracks the MSCI AC Far East ex-Japan Small Cap index. This is a less popular fund with around €12 million under management and is only listed in the UK and Germany. Dividends are paid semi-annually and the TER is again 0.74%. The index tracks around 1,000 smaller companies and the focus on small cap stocks shifts the geographical and sector balance. Taiwan is the largest holding (26%), followed by China (21%) and Korea (20%), while Singapore and Hong Kong account for around 10% each. Financials is the largest sector at 20% (mostly real estate-related stocks), followed by industrials (19%), technology (17%) and consumer discretionary (17%). The small cap constraint could make this an interesting play on Asia’s development since it should be biased towards entrepreneurial private firms rather than state-controlled giants.

The second most popular Asia regional equity ETF is Lyxor’s MSCI AC Asia Pacific ex-Japan tracker, which has around €500 million under management. This is a swap-based product with a TER of 0.65% and pays annual dividends. The key distinction between this 600-stock benchmark and the AC Far East ex-Japan is that it includes Australia and New Zealand; Australia is actually the largest component at around 26%. Korea (21%), Hong Kong (15%), China (13%) and Taiwan (12%) are the other major weightings, while the leading sector is banks and financials (29%).

Another broad regional tracker is the db x-trackers MSCI AC Asia ex-Japan, which has around €90 billion in assets. This index is essentially the MSCI AC Far East ex-Japan with the addition of some exposure to India. Equities from India account for around 10% of the 550-stock basket, which shaves a percentage point or two from other countries’ weightings when compared to the Far East index, and the two indices’ sector weightings are very similar. As this is a db x-trackers product it is swap-based and reinvests dividends. It carries a TER of 0.65%.

However, investors currently seem more interested in db x-trackers’ other regional ETF, the MSCI EM Asia, which has around €400 million in assets. This is an emerging markets-only basket of 480 stocks; the EM status means that it doesn’t include Hong Kong or Singapore. China is the largest weighting with 32%, followed by Korea (23%), Taiwan (20%) and India (13%), while the main sectors are financials (25%) and technology (22%). The fund’s charges and structure are the same as those of other db x-trackers ETFs.

Overall, this is a worthy effort to produce a pure emerging Asia ETF, but investors should be aware that the basket could change significantly over the next couple of years. FTSE raised Korea to developed market status this month and Taiwan is on the shortlist for promotion; should MSCI follow suit, the constituents of this fund could soon look very different.