Where To Hide With ETFs When China Is A Problem

Major emerging markets equity benchmarks have already notched double-digit declines just three weeks into January after doing the same last year, and China is a big reason why.

Significant capital outflows from China are pressuring the yuan and the currency's decline is, in turn, weighing on stocks in the world's second-largest economy.

The Emerging Market Situation

Throughout much of this now multi-year emerging markets slump, investors keep hearing how inexpensive developing world equities are. However, what appear to be compelling valuations have not been enough to lure investors back to this asset class.

Related Link: This Emerging Markets ETF Should Be Less Bad

In fact, emerging markets exchange-traded funds have bled nearly $4 billion just this month.

“I believe the bearish tone of the Chinese market is largely a reflection of both capital outflows and a significant debt bubble. It’s difficult to get a grip on the mountain of Chinese debt and its impact on the economy, but press stories have highlighted the potential economic stress resulting from high debt,” said PowerShares in a recent note.

“The Wall Street Journal recently covered the surge in new government and corporate bond issuance in China and sinking profits at state-owned companies. An analyst interviewed as part of the story suggested that bad loans in the most distressed sectors of the economy could lead to $151.7 billion in bad loans and cause 1.7 million workers to lose their jobs.”

Taking Sanctuary In The Year's Rough Beginnings

With stocks off to a rough start in 2016, advisors and investors are wondering, and rightfully so, where to hide. Though not guaranteed to rise in turbulent markets, low volatility ETFs such as the PowerShares S&P 500 Low Volatility Portfolio (PowerShares Exchange-Traded Fund Trust II SPLV) can help investors weather rocky markets.

SPLV, one of the largest low volatility ETFs on the market today, has been less bad than the S&P 500 this year.

Investors have added nearly $194 million to SPLV this year, a total exceeded by just one other PowerShares ETF.

Emerging Markets Counterpart To SPLV

SPLV has an emerging markets counterpart, the PowerShares S&P Emerging Markets Low Volatility Portfolio (PowerShares Exchange-Traded Fund Trust II EELV). Though its year-to-date performance is nothing to crow about, the PowerShares S&P Emerging Markets Low Volatility Portfolio has been more than 400 basis points less bad than the MSCI Emerging Markets Index.

EELV's underlying index “is compiled, maintained and calculated by Standard & Poor's and consists of the 200 least volatile stocks of the S&P Emerging BMI Plus LargeMid Cap Index over the past 12 months,” according to PowerShares.

Due to the fact that Chinese equity market volatility spiked in the latter stages of 2015, the country is EELV's smallest country weight at just over 3 percent. Taiwan and Malaysia combine for about 36 percent of EELV's weight.

“The fallout from the Chinese yuan crisis has allowed investors to examine the performance of investment factors in a new light. When analyzed against periods of weakness in the Chinese yuan, low volatility and quality emerge the clear winners,” added PowerShares.

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