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Post-Election Call on the New Zealand ETF

Despite being home to a currency that, until recently, had been stubbornly strong and being the first developed market to raise interest rates, New Zealand remains home to a sturdy equity market.

New Zealan’s benchmark NZSE 50 Gross Index is up nearly 11%, having outpace dollar-bloc rivals such as Australia and Canada. On a year-to-date basis, New Zealand’s marquee equity index is the twenty second-best performer in the world, according to S&P Capital IQ.

Following New Zealand’s recent national elections that saw Prime Minister Jonathan Key win a third term, some analysts and market observers see further upside for New Zealand equities and the iShares MSCI New Zealand Capped ETF (ENZL) , the lone New Zealand ETF.

Despite not one but two interest rate hikes by the Reserve Bank of New Zealand this year, the New Zealand dollar has tumbled nearly 11% against its U.S. rival since early July. Interestingly, ENZL, which is chock full of companies that previously bemoaned the strong kiwi is off 8.4% over the same period. [New Zealand ETF Likes Rate Hike]

“Meanwhile, the performance of the New Zealand dollar (or kiwi) both bilaterally vis-a-vis its American rival and multilaterally on a real effective, trade-weighted basis turned negative in mid-July. Yet, kiwi’s depreciation, in spite of relatively high domestic interest rates, should eventually improve the nation’s competitiveness abroad, enhancing the prospects for a reversal in the deteriorating pattern of the trade balance in the months ahead,” said S&P Capital IQ in a recent research note.

The research firm has an underweight rating on the $140.2 million ENZL. Investors have displayed little patience for a potential ENZL as the kiwi has tumbled. In the third quarter, $16 million has been pulled from ENZL while the iShares MSCI Australia ETF (EWA) has added $21.7 million in new assets. [New Zealand ETF at a Crossroads]

An issue facing New Zealand stocks and ENZL is valuation. While plenty of market observers have noted U.S. stocks are expensive, New Zealand is one of the most richly valued developed markets.

“New Zealand stock exchange’s positive-adjusted, one-year forward price-earnings multiple (p/e) of 17.0x seems comparatively expensive measured against that of Canada (15.8x), US (16.5x) and Australia (14.9x). Furthermore, it exceeds its historical average (15.5x) and its record low (9.8x), despite the fact it is 4.6 points below its all-time high (21.6x),” according to S&P Capital IQ.

If there is a valuation silver lining for New Zealand it is that the market is modestly undervalued against the global benchmark, the S&P Global BMI Index. Additionally, S&P Capital notes Fletcher Building, ENZL’s largest holding at 13% of the ETF’s weight, is undervalued.

Still, investors should acknowledge ENZL’s recent sensitivity to the week kiwi. Last week, RBNZ said it “considers the level of the exchange rate is unjustified and unsustainable, and that it is susceptible to a significant downward adjustment.” RBNZ Governor Graeme Wheeler added “that past experience suggests that, when the New Zealand dollar begins declining from an unjustified and unsustainable level, the ultimate adjustment can be large.”

iShares MSCI New Zealand Capped ETF