MarketWatch.com reported that MSCI Barra is contemplating changes to the Emerging Markets Index — South Korea and Israel could be promoted to developed country status, dropped from the emerging markets index and included in the MSCI EAFE Index. Kuwait, Qatar and UAE are being considered for inclusion in the MSCI Emerging Markets Index.

Dropping South Korea and Israel from the emerging markets index will likely result in a significant turnover in the iShares MSCI Emerging Markets ETF (EEM) and Vanguard Emerging Markets ETF (VWO) as these two markets make up about 16% of the funds. VWO’s turnover in the past has been modest ranging from 9% to 26%.

The MarketWatch.com report suggests that the changes could make emerging markets “more volatile and worsen their performance”, which is probable but shouldn’t concern investors too much. Emerging markets have been a very volatile asset class in the past and are likely to remain so. The emerging market ETFs are still broadly diversified and remain a viable option for getting exposure to this asset class.

This article has 10 comments

  1. I wonder whether economists have a “textbook” definition of an emerging market versus developed country? I don’t know about Kuwait and Qatar, but the UAE’s recent developments are not only first-world, but EXTREMELY opulent by western standards! Their citizens pay NO taxes and all university graduates, regardless of their degree, expect to receive a starting salary of $250K in whatever job they get… Not only that, but their sovereign wealth funds are buying up assets around the world and are quickly becoming the world’s financier – as recently demonstrated by Porsche going begging to them for cash. Is it possibly because their extreme wealth comes from one source that makes them an “emerging” market by the economist’s definition??? As compared to South Korea, whose wealth comes from a slightly more diverse economy of manufacturing and trade?

    • Canadian Capitalist

      Phil: Good question. A cursory glance at the MSCI methodology simply states that they classify a country as “developed” or “emerging” but don’t say how. I agree with you that SWF are becoming a significant factor in global capital flows. It used to be that developed countries were the creditors and emerging markets had capital deficits. Now, the reverse seems to be true, at least for the biggest gorilla — the United States.

      It is also only a matter of time before Taiwan is promoted to a developed market.

  2. A Dictionary of Economics. Oxford Press, 2009
    emerging markets: Stock exchanges in countries where investors are unused to trading. These are mainly newly industrialized countries , such as Taiwan or Brazil, or newly liberalized economies , such as Hungary or Poland.

    MIT dictionary of modern economics MIT Press, 1992
    developing countries: This description of the economic position of the poorer nations of the world came into current usage in the 1960s and began to replace the less complimentary expression “underdeveloped”. An attempt to quantify the definition is in terms of those countries with a per capita income below 1/5 of that of the U.S.A.

  3. Phil S: are the streets made of candy and the water made of chocolate too? Tell me it’s true and I’ll be there tomorrow!

    In response to the linked article, I can see volatility increasing but I’m not sure about returns decreasing. An increase in volatility could point the other way IF investors pay a sensible price. After all smaller markets might have more room to grow, assuming they have the right conditions. The logic seems to be coming from the same people who thought the Chinese market would outperform everything for the next decade in early 2007. This part of the article is telling: “But Korea’s exit would likely hurt performance of the Emerging Markets Index, at least in the short term. The iShares MSCI South Korea Index ETF was up 26.1% in March, giving the broad benchmark a boost. “

  4. Canadian Capitalist

    Silicon Prairie: I’m not convinced that the point made in the article on returns and volatility has any basis in fact and agree with you that they seem to have simply extrapolated meaningless short-term data. Also, agree with you on the point that price paid matters. Emerging markets were so hot after a huge run up only to crash and burn last fall.

  5. @Silicon Prairie: Streets of candy and chocolate? Who are you, Willy Wonka? For the most part, you have to be born there and/or be a UAE citizen. But with the right skills, an immigrant can also get quite wealthy there (a co-worker of mine worked there for several years), but most migrant workers live in the slums and work menial jobs because none of their citizens would stoop to those jobs – kind of like Canadians but more extreme. I heard that their government supports this structure in order to keep religious extremism at bay. But it is quite impressive as the Porsche dealerships in Dubai & Abu Dhabi sell the highest volumes IN THE WORLD. You should definitely go, all you need is a plane ticket!

    My former employer had an office there and people who went to work in that office made incredible amounts of ca$h. But for ME personally, I’m a single guy so I wouldn’t even make it a week – no booze, no girls, no way!!!

    @CC & @Jon D:

    So let me get this straight. An emerging economy depends upon how busy their stock exchange is. A developed country is measured using the USA’s per capita what? GDP or GNP?

    Hmm… What if a country doesn’t have a stock exchange (or have a fledgling one), but has a per-capita GDP more than 1/5 of the USA (in some cases much higher than the USA)…? I guess that would be the situation that describes most of these low-population oil exporting countries, such as Saudi Arabia, UAE, Brunei, etc… Hence, that is why they fall in the emerging markets definition??? It seems sometimes the per capita GDP definition and the stock exchange definition don’t meet in the middle anywhere… Like apples and oranges.

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