Emerging Market ETF: Meaning, Pros and Cons

What Is an Emerging Market ETF?

An emerging market ETF is an exchange-traded fund (ETF) that focuses on the stocks of emerging market economies, such as Latin America, Asia, and Eastern Europe. The underlying indexes tracked by emerging market ETFs vary from one fund manager to another, but all should be passively managed and contain equities from multiple countries unless otherwise stated. 

Understanding an Emerging Market ETF

Emerging market ETFs are composed of emerging market stocks, which can offer compelling growth opportunities over time for investors. Many investors with longer time horizons simply cannot afford to miss out on the higher returns offered by some emerging market economies. These nations are typically identified by high growth rates and many have surpluses of rich natural resources that are heavily consumed by the developed world.

While investing in emerging markets can provide a financial opportunity for investors, these markets may come with a steep learning curve. Attempting to navigate influences like geopolitical issues, political risk, and less transparency in emerging market countries are all reasons that the average investor might opt for an emerging market ETF instead of trying to locate and evaluate individual securities in emerging markets themselves.

With an emerging market ETF, an investor can target a specific portion of an emerging market based on regional preferences or a specific asset class. Within the broad class of emerging market ETFs, some funds focus on certain market capitalizations, high-dividend stocks, or funds with high allocations toward specific sectors.

Advantages and Disadvantages of an Emerging Market ETF

Many investors value the diversification benefits of emerging market ETFs in addition to their ability to generate a return. Because they invest in equities in emerging markets, emerging market ETFs tend to be less correlated to U.S. equities than other ETFs that primarily feature equities in their lineups.

Emerging market ETFs also tend to be more liquid than emerging market mutual funds, because ETFs can be bought and sold instantly on an exchange, whereas a mutual fund can only be redeemed at the price set at the end of the day’s trading. Trading costs tend to be higher when investing directly in local stock exchanges in emerging market nations.

Investors should be aware of multiple potential risks before investing in emerging markets. These markets are often more prone to volatility than their more developed counterparts as they are still transitioning from closed economies to market economies. Emerging markets are also vulnerable to geopolitical, currency, and governance risks. In addition, expense ratios for emerging market ETFs may be slightly higher than the average for domestic-focused funds.

Investing in an Emerging Market ETF

Like with most investments, there are many options to choose from when deciding on investing in emerging market ETFs. One of the most popular indexes for emerging markets is the MSCI Emerging Market Index. An investor could choose ETFs that track this index as their investment strategy.

Investment manager, Blackrock, whose iShares investment funds have been incredibly popular, offer plenty of emerging market ETFs, such as the iShares MSCI Emerging Markets ETF (EEM), which tracks the above-mentioned index.

Other popular emerging market ETFs include the SPDR Portfolio Emerging Markets ETF (SPEM), Schwab Emerging Markets Equity ETF (SCHE), and the Goldman Sachs Activebeta EMkts Eq ETF (GEM).

When choosing an emerging market ETF, it is important to choose one that you as an investor are comfortable with, understand the risks of the countries the ETFs invest in, as well as the cost of investing in the ETF.