Can BRIC Small-Cap ETFs Do It Again In 2013?

Despite a slack performance by the iShares MSCI Brazil Index (NYSEARCA:EWZ), which is off almost 4.5 percent for the year, the four major country-specific ETFs tracking the BRIC nations have performed well as a group.

The other three ETFs are the iShares FTSE/Xinhua China 25 Index (NYSEARCA:FXI), the WisdomTree India Earnings Fund (NYSEARCA:EPI) and the Market Vector Russia ETF Trust (NYSEARCA:RSX). Throw in EWZ and the average return for that quartet of BRIC ETFs is 9.1 percent. That is solid, but not aw-inspiring, particularly when the far less volatile SPDR S&P 500 (NYSEARCA:SPY) is up 13.4 percent.

iShares Dow Jones US Home Const. (ETF) (NYSEARCA:ITB)

The 2012 picture for BRIC ETFs is a bit prettier at the small-cap level. Using the Market Vectors Brazil Small Cap (NYSEARCA:BRF), the Market Vectors India Small Cap Index (NYSEARCA:SCIF), the Claymore/AlphaShares China Small Cap (NYSEARCA:HAO) and the Market Vectors ETF Trust (NYSEARCA:RSXJ) would have generated an average return of nearly 11.4 percent across the four funds and that includes a loss of almost 11.8 percent for the Market Vectors Russia Small-Cap ETF.

If investors swapped out of BRF in favor of the iShares MSCI Brazil Small Cap Index (NYSEARCA:EWZS) and out of the SCIF in favor of the EGA Emerging Global Shares Trust (NYSEARCA:SCIN), the average return for a quartet of BRIC small-cap ETFs jumps to 14.3 percent. So split the difference between the two combinations – BRF, SCIF, HAO and RSJX and EWZS, HAO, RSXJ and SCIN and the average return between the two groups is about 13 percent.

Either way, investors that wanted exposure to each BRIC nation on an individual basis would have done better with small-caps ETFs than with large-cap equivalents. With just a few trading days left in 2012, the question is whether BRIC small-caps will continue outperforming in 2013. The answer should be addressed at the country level to start.

Russia Starting with Russia makes sense because while the Market Vectors Russia ETF has been a laggard itself with a gain of just under eight percent, its small-cap counterpart RSXJ, has been far worse with the aforementioned 11.8 percent loss. The bottom line is Russia has been a BRIC laggard this year relative to China and India and only looks good in comparison to Brazil.

However, there are some positive signs for Russia bulls, starting with valuation. Investors have heard it all before, but the equity valuations across the BRIC nations can be described as compelling. While Russia historically trades at a discount to the broader emerging markets universe, Russian are now inexpensive relative to historical standards.

As for Russian small-caps, they are even cheaper than the large-caps. At the end of November, RSXJ had a P/E ratio of 3.4 and a price-to-book ratio of just 0.8. Earlier this year, J.P. Morgan noted Russian equities were trading at 3.6 times price to free cash flow, well below the 10-year average of 4.9.

There is also talk that Russia, in an effort to attract more foreign investment, is legitimately working to diversify its economy. That too would benefit RSXJ because by the standards of energy-heavy large-cap Russia ETFs, RSXJ is diverse. Energy names account for over a quarter of the ETF’s weight, but materials and industrial names are also on prominent display.

Additionally, the Russian government has passed a law mandating that state-owned firms start doling 25 percent of their profits in the form of dividends. Russian firms have a reputation for being highly profitable, broadly speaking, and the country’s new found affinity for dividends from state-owned firms could lead to more dividend increases from an array of firms. RSXJ’s exposure to energy, financial services and materials names positions the ETF to take advantage of that trend, implying the fund should perform better in 2013.

India In addition to SCIF and SCIN, there is another India small-cap ETF on the market, the newly minted Ishares MSCI India Small Cap Index Fund(BATS:SMIN). Over the past six months, all three have performed admirably, though SCIN and SMIN have been the better bets.

With the recent bout of weakness in Indian information technology firm Infosys, a marquee component in many India large-cap ETFs, the small-cap funds once again look like fine avenues for playing Asia’s third-largest economy.

The Indian consumer will be the story that drives the returns offered by many Indian small-caps – in either direction. There is evidence that story is starting to take hold in the way India bulls envisioned. Just look at the returns offered by the EG Shares India Consumer (NYSEARCA:INCO) and the good news the small-cap funds are levered to that story as well. Over 21 percent of SCIN’s sector allocations are direct plays on the consumer. SCIF is in the area of 20 percent while a combined 23.7 percent of SMIN’s weight goes to discretionary and staples names.

The issue is by how much will the small-cap ETFs outpace their large-cap rivals by. For example, SCIN has outperformed EPI by about 860 basis points in 2012. That is a wide chasm and that pace may be difficult to maintain two years in a row.

Brazil Charles Dickens once wrote about tales of two cities, but the varying performances of Brazil large-cap ETFs, such as EWZ, and small-cap funds, such as BRF and EWZS, paint a picture of two Brazils. Several issues explain the chasm between Brazilian large- and small-caps in 2012.

First, global investors spent much of 2012 fretting about an economic slowdown in China, Brazil’s top trading partner. Predictably, that hampered shares of Brazilian energy and materials names. Those sectors combine for over 36 percent of EWZ’s weight, but only receive token allocations in BRF and EWZS.

Second, Brazil’s efforts to stimulate the domestic economy through infrastructure programs have largely passed over large-caps. However, various government stimulus efforts, whether it be consumption taxes or the aforementioned infrastructure largess, have boosted Brazil’s small-caps.

Third, despite interest rates on consumer credit that would be considered absurdly high in the developed word, the Brazilian consumer is alive and kicking. A 31 percent gain for the Global X Funds (NYSEARCA:BRAQ) says as much. That has been good news for BRF and EWZS as well as those funds allocate 28 percent and 43 percent of their weights, respectively, to consumer-related shares.

Brazilian small-caps now face competing valuations views. In September, Brazil’s small-cap index touched a book value of 1.59, according to Bloomberg. That is frothy by historical standards. EWZS has a P/E ratio of 24.35 and a price-to-book ratio of 2.39, according to iShares data.

BRF trades at 18.13 times earnings and 1.44 times book value, Market Vectors data indicate. As measured by the iShares Russell 2000 Index (NYSEARCA:IWM), U.S. small-caps are more expensive. That ETF has a P/E ratio of 25.22 and a price-to-book ratio of 3.1.

China When Chinese ETFs are performing well, the Claymore/AlphaShares China Small Cap (NYSEARCA:HAO) usually outpaces the iShares FTSE China 25 Index Fund. On the way down, the opposite is true, but investors must acknowledge China ETFs have perked up over the past three months. Over that time, HAO has outperformed FXI by almost 500 basis points. Year-to-date, HAO’s advantage of FXI is nearly 600 basis points.

Clearly, a big risk to HAO’s potential upside in 2013 is the controversy that often surrounds Chinese small-caps. Fraudulent accounting, reverse mergers and myriad other unsavory acts have help Chinese small-caps become ensconced in controversy.

Regarding HAO, there is some good news. Many of worst offenders among controversial Chinese small-caps are found in the media, Internet, technology and alternative energy sectors. Those industry groups receive scant representation in HAO. Another advantage HAO offers is that it is home to 226 stocks, none of which accounts for more than 1.13 percent of the fund’s weight. That means if a Sino Forest-like debacle repeats itself with one of HAO’s holdings, the ETF is not likely to suffer significant losses.

HAO’s next advantage is exposure to the Chinese consumer through a combined allocation of 24 percent to discretionary and staples names. With China’s government working diligently to steer the world’s second-largest economy towards more domestic consumption, HAO is positioned to benefit if those efforts prove successful.

Then there is valuation. For what felt like an eternity, China bulls kept saying how cheap Chinese stocks were. The recent bounce indicates investors have finally bought into that thesis. As measured by HAO, Chinese small-caps are even cheaper.

HAO has a P/E ratio of 7.9 and a price-to-book ratio of just one, according to Guggenheim data. Not only does that mean the ETF is far less expensive than U.S. small-caps as tracked by IWM, but HAO is also less pricey than FXI. FXI trades at almost 12.9 times earnings with a price-to-book ratio of 1.61. All this is a long way of saying, yes, HAO can repeat its 2012 bullishness in 2013.

This article was originally written by The ETF Professor, and posted on Benzinga.

Biotech Insider Alert - $6 Stock To Hit $40

$200 Million Dollar Healthcare Hedge Fund's #1 Best Idea Right Now

The best healthcare hedge fund out there right now is one of the largest shareholders in this biotech stock. The fund returned more than 20% in each of the last 2 years with a virtually fully hedged portfolio, and it's sending out a BUY signal on this biotech stock. Get your FREE REPORT today (retail value of $300)

This is a FREE report from Insider Monkey. Credit Card is NOT required.
Insider Monkey Small Cap Strategy
Insider Monkey Small Cap Strategy

Insider Monkey beat the market by 52 percentage points in 24 months. Our beta is only 1.2 (don't click this link if beating the market isn't important to you).


The Oldest Money Managers

The Greatest Directors in the World

Largest Animals in the World

World’s Most Expensive Desserts

Best Selling Comic Books of All Time

A-list Actors who Sabotaged Their Career

Rappers With a College Degree

The Best Jazz Albums of all Time

The Most Influential Jazz Musicians

The World’s Most Famous Photographers

The Best Oscar-Winning Songs

Most Influential Choreographers Ever

Most Expensive Department Stores in the World

The Most Expensive Stolen Paintings in the World

The World’s Most Expensive Teas

Top Oscar Record Holders

The Most Expensive Flowers in the World

Countries With a Booming Film Industry

Most Expensive Cupcakes in the World

Uncommon European Escapes

The Most Stolen Artists in History

Best Travel Destinations in Australia

World’s Most Expensive Musical Instruments

World’s Most Famous Animals

Most Expensive Cakes in the World

Most Expensive Kosher Champagne in the World

Most Expensive Kosher Wine in the World

The Most Surprisingly Dark Fairy Tales

Most Popular Travel Destinations in Asia

The 10 Most Expensive Dresses Ever Worn to the Oscars

World’s Most Visited Art Museums

Best Countries for Photographers to Work in

Best Paid Jobs in the Film Industry

The Most Renowned Recovered Paintings Ever

Child Stars That Turned out Just Fine

Books That Were Banned in the Past Century

World’s Richest Dancers

Best Remedies against Bad Breath

Foods That Improve Your Skin Texture

Best-Selling Children’s Books of all Time

Foods That Boost Your Libido

Best-Selling Books of all Time

The Most Expensive Academy Awards Jewelry in History

Most Expensive Japanese Restaurant In New York City

The Best B-Boy Movies

Most Awesome Hip Hop Documentaries

Foods That Stain Your Teeth

Richest Doctors in the World

The Best Movie Sountracks Ever

The Highest Grossing Musicals on Broadway


Enter your email:

Delivered by FeedBurner


Thanks! An email with instructions is sent to !

Your email already exists in our database. Click here to go to your subscriptions

Insider Monkey returned 129% in 2.5 years!! Wondering How?

Download a complete edition of our newsletter for free!