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Impact of Turkey situation on ETFs assessed


Todd Rosenbluth, Director of ETF & Mutual Fund Research with CFRA, has commented on the weakness of the Turkish market and its possible effect on ETF portfolios.

“Most investors are not exposed to Turkey, and if so, the weighting would be quite limited as it is a small stake in most diversified emerging market products,” Rosenbluth says.

He reports that, already down sharply in 2018, the iShares MSCI Turkey ETF (TUR) fell 16 per cent on Friday, pushing the year-to-date loss to 50 per cent. More than USD270 million traded in TUR, 17 times its 20-day average, according to iShares, highlighting the liquidity the ETF wrapper provides.

The beleaguered local currency, the Turkish lira, dropped sharply as well Friday, relative to the US dollar, as increased tariffs on Turkish steel and aluminium along with high inflation has been harmful to investor sentiment.

Generally speaking, investors in a broadly-diversified emerging market fund probably have little to fear, since such funds generally have such low exposure to Turkey. However, if there is a broader economic and market reaction, even broadly diversified funds could be harmed.

TUR has USD246 million in assets, making it one of the moderately-sized ETFs in the iShares single country suite that also includes the USD17 billion iShares MSCI Japan (EWJ) and the USD6.5 billion iShares MSCI Brazil (EWZ).

Rosenbluth writes that TUR earns a favourable rating from CFRA due in part to the firm’s quant-based stock recommendations of its holdings and its tight bid/ask spread. Meanwhile, most investors hold more broadly-diversified emerging market ETFs and/or mutual funds in their portfolios.

Vanguard FTSE Emerging Markets Stock Index ETF class (VWO) and Admiral mutual fund class (VEMAX) had a recent 0.9 per cent stake in Turkey, the 14th biggest country exposure far behind China (37 per cent of assets), Taiwan (15 per cent) and India (11 per cent). VWO’s 7.0 per cent year-to-date decline highlights the diversification benefits as some of these markets performed better than others.

iShares MSCI Emerging Markets ETF (EEM) and iShares Core MSCI Emerging Markets ETF (IEMG), which track different indices from each other and the Vanguard offerings, also had less than 1 per cent stake in Turkey, Rosenbluth reports. For IEMG, which has a lower expense ratio and also includes more small-cap stocks, China (29 per cent), South Korea (15 per cent) and Taiwan (13 per cent) were the largest country weights. Its sibling EEM had the same top country exposures, but slightly more in China and less in South Korean and Taiwan.
These four funds – Vanguard FTSE Emerging Markets Stock Index ETF, Vanguard Emerging Market Stock Index Fund-Admiral, iShares MSCI Emerging Markets ETF and iShares Core MSCI Emerging Markets ETF – are index based and hold stocks in proportion to the broader emerging markets equity landscape.

Rosenbluth writes that many investors use actively-managed mutual funds where portfolio manager discretion is based on economic prospects and company fundamentals in emerging markets. Yet here too, investors seem to be relatively protected from the direct impact of the Turkish market decline.

In the first seven months of 2018, diversified developed market international equity ETFs had USD28 billion of net inflows, while diversified emerging market equity ETFs gathered USD6.1 billion, according to a recent SSGA report. Demand was even more limited to single country ETFs, which pulled in just USD1.7 billion.

“Turkey is not going to have a large direct impact but the question is whether or not the fears about Turkey spread to other emerging markets and that’s something that will only be known in hindsight,” Rosenbluth says.

He also points out that there is a slightly larger rating in emerging market bonds ETFs, quoting the iShares emerging market bond ETF which has 3.7 per cent in Turkey, at its fifth or sixth largest country exposure.

“The debt is a greater risk but hopefully people will realise that emerging market debt is not a capital preservation vehicle and would expect some volatility,” Rosenbluth says.

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