Vanguard Emerging Markets Stock ETF (VWO) is an ETF that seeks to track the performance of the MSCI Emerging Markets index. VWO holds 823 securities (as of June 30, 2008) and is fully invested in common stocks of companies located in emerging markets worldwide. The ETF is passively managed with an average annual turnover of only 9% (June 30, 2008). Its total net assets are USD 7.1 billion, and the average market cap of its holdings is USD 17.9 billion. Since its inception date (March 4, 2005), the Fund has returned 19.84% (July 31, 2008). It tracks the MSCI Emerging Markets index closely with an R-Squared of 0.98 and a Beta of 0.98.
MSCI Emerging Markets index is an index created by Morgan Stanley Capital International (MSCI) to measure the equity market performance of the global emerging market nations. It is a float-adjusted market-cap-weighted index and consists of shares from 25 emerging economies in Europe, Asia, Africa, and Latin America. As of June 30, 2008, VWO’s five largest country holdings are Brazil (17.6%), South Korea (12.7%), China (11.1%), Russia (11.1%), and Taiwan (10.6%). Its ten largest company holdings make 18.5% of total net assets.
The emerging markets are known to be volatile compared to their developed counterparts. Compared to MSCI Europe, Australasia, and Far East (EAFE) index – a popular proxy for the developed markets – MSCI Emerging Markets index has a higher standard deviation (3-years trailing of 21.13 vs. MSCI EAFE’s 12.38) with a Beta of 1.52 (to MSCI EAFE index). However, the MSCI Emerging Markets index has been shown to give a higher return to compensate for its higher risk, evidenced by its 3-years trailing Sharpe ratio of 0.84 (compared to MSCI EAFE’s 0.53). Since the performance of emerging markets is generally less correlated with developed markets, the instrument can play a diversifying role in a portfolio of developed markets to reduce its risk. As a proxy for lower correlation, both indexes showed an R-Squared of 79.
Morningstar category for VWO is Large Blend (as of March 31, 2008). I placed it under my core holdings, with a target position of up to 15% of my portfolio (since emerging markets represent some 15% of the global economy). Although a bit volatile as an anchor, VWO is diversified with its large-cap tilt, long-tenured and proven management, vast countries and sectors coverage, low turnover, and low expense.
With an expense ratio of 0.25%, VWO is the better alternative to emerging markets exposure compared to its older and bigger rival, iShares MSCI Emerging Markets Index ETF (EEM), since the latter’s expense ratio is 0.75%.
Duane F. Kelly leads the management of the Fund. Mr. Kelly has been with Vanguard since 1989 and has managed the Emerging Markets Stock Index Mutual Fund, among others, since 1994. Mr. Kelly has advised the ETF since 2005.