Inverse ETFs to Hedge Against Emerging Market Volatility

ETF Trends

Over the long-term, emerging markets will outpace the slow growth in developed economies, but investors will be affected by short-term volatility, such as the recent upheaval and sell-off. Nevertheless, there are a number of exchange traded fund options to hedge against the dips.

The emerging markets are seeing continued downward pressure on their currencies despite benchmark hikes to stem the bleed, writes Russ Koesterich, Managing Director, BlackRock’s Global Chief Investment Strategist, Global Chief Investment Strategist for BlackRock’s iShares.

Investors still view emerging market assets as a risky play, even though they are trading at a 40% discount to developed markets. [Emerging Markets Outflows: Worse Before it Gets Better]

“Looking ahead, we expect the combination of U.S. Federal Reserve tapering (which reduces overall global liquidity) and high debt levels in many EM countries will keep volatility high,” Koesterich said. “While we do see good long-term value in emerging markets, near-term volatility suggests a more cautious stance is warranted in the shorter-term.”

Emerging markets saw heavy inflows as the flow of easy money pushed investors into riskier assets as a way to turn a profit. However, with the flow of Fed dollars easing, investors are pulling out of developing economies.

Moreover, rising debt levels, depreciating currencies and now rate hikes could translate into tempered growth over the shorter term.

Consequently, investors seeking to hedge or even aggressively position on emerging market weakness can take a look at inverse ETFs, including ProShares Short MSCI Emerging Markets (EUM) , ProShares UltraShort MSCI Emerging Markets (EEV) and Direxion Daily Emerging Markets Bear 3x Shares (EDZ) .

Proshares provides two options, a basic inverse or -100% emerging market play through EUM or a leveraged inverse, or -200%, play through EEV. EUM is up 11.8% year-to-date while EEV gained 24.7%.

The Direxion ETF EDZ offers greater leverage at -300% of the MSCI Emerging Markets Index. EDZ is up 38.8% year-to-date.

In comparison, the MSCI Emerging Markets Index is down 7.6% year-to-date.

Due to the daily rebalancing and compounding effects over time, the leveraged funds may not perfectly reflect their -1x, -2x or -3x strategies over a long period. Investors have typically used geared funds as a short-term hedges or as speculative plays.

Direxion’s Top Five Leveraged ETFs in January

direxion

Chart Courtesy: Direxion

For more information developing economies, visit our emerging markets category.

 

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