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Virtus Plans to Roll Out Actively Managed Japan ETF

Zacks Equity Research

Last month, Bank of Japan’s (BOJ) move to impose a negative interest rate for the first time in its history took the markets by surprise (read: Japan ETFs to Buy on Negative Interest Rates).

 

The BOJ’s step will help the third-largest country in the world to get closer to its target inflation rate of 2% by the first half of next year and boost confidence and spur demand. The BOJ Governor Haruhiko Kuroda stated that there is no limit to efforts for easing monetary policy. The central bank may further expand asset purchases if required (read: Japan ETFs to Tap on Renewed Stimulus Hopes).

 

Encouraged by this, Virtus has recently filed for an actively managed ETF, Virtus Japan Alpha ETF (EJA), targeting this market. While a great deal of the key information, such as expense ratio, was not available in the initial release, other important points were released in the filing.

 

We have highlighted those below for investors who may be looking for a fresh out-of-oven play targeting Japan from Virtus should it pass regulatory hurdles (see more in the Zacks ETF Center):

 

Proposed Fund in Focus

 

As per the SEC filing, the fund will generally comprise securities of Japanese companies listed on the JPX-Nikkei 400 Total Return Index. Japan Tobacco Inc., Takeda Pharmaceutical Company Limited, Toyota Motor Corporation and Nippon Telegraph and Telephone Corporation are some of the top weighted stocks in the index.

 

The fund’s basket will include approximately 80–100 stocks from the Index based on quantitative and qualitative factors such as cash flow return on invested capital, earnings quality and momentum, operational quality, corporate governance policies and capital stewardship.

 

The proposed ETF looks to provide long-term capital appreciation. Although Virtus ETF Advisers LLC is the fund’s adviser, it has appointed Euclid Advisors LLC as sub-adviser. The fund’s investments will be managed by Euclid Advisors.

 

The issuer may exit from any stock, if it believes that the stock has become overvalued or if the stock’s weightage in the portfolio is too large.

 

How does it fit in a portfolio?

 

This proposed product could be an interesting choice for investors seeking exposure to the Japanese market. This is because the prime minister, Shinzo Abe, has started implementing his stimulus program, popularly known as Abenomics, in an effort to lift the economy out of feeble growth and deflationary pressure. Abenomics is a combination of aggressive quantitative easing policies from BOJ, increased public infrastructure spending and a boost to exports (read:

Yen ETF Gains on Bank of Japan Stimulus Changes).

 

In such a scenario, a Japan focus seems to be a good idea. As such, the fund might be a great choice in a global slowdown. The fund does offer some diversification benefit through exposure to Japan markets. The product uses a bottom-up approach and fundamental analysis ensures the fund includes stable and sound companies.

 

Can it succeed?

 

The proposed ETF does not have any direct competitor as there are currently no actively managed Japan ETFs available to U.S. investors.  The proposed fund, if approved, could give investors a new way to play the Japanese equity market. The product might charge higher fees from investors annually due to its unique strategy.

 

However, there are quite a number of other Japan equity ETFs listed in the U.S. Of these, the ultra-popular fund, iShares MSCI Japan ETF (EWJ), has a total asset base of $17.7 billion. This fund tracks the MSCI Japan Index and holds 318 stocks in its basket. It trades in heavy volume of 46 million shares per day and charges 47 bps in annual fees.

 

Another fund that provides a similar broad exposure to the Japanese stock market is Maxis Nikkei 225 Index Fund (NKY) with AUM of nearly $45 million and exchanging 37,000 shares a day (read: How Sustainable is Nikkei Rebound? Japan ETFs in Focus).

 

Apart from these, EJA could also face competition from Japan hedged funds – WisdomTree Japan Hedged Equity Fund (DXJ) with an asset base of $10.6 billion, db X-trackers MSCI Japan Hedged Equity (DBJP) with AUM of $1.1 billion and iShares Currency Hedged MSCI Japan ETF (HEWJ) with AUM of $616.5 million.

 

Thus, the proposed ETF, if launched, has a good chance of making a name for itself if it manages to generate returns net of fees greater than the passively managed products in the Japan equity ETF space. Virtus Japan Alpha ETF’s plan of using a bottom-up approach and fundamental analysis for stock selection is noteworthy, but its success is a huge factor of the returns it manages to generate.

 

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ISHARS-JAPAN (EWJ): ETF Research Reports
 
WISDMTR-J HEF (DXJ): ETF Research Reports
 
DEUTS-XT MS JPN (DBJP): ETF Research Reports
 
ISHA-CH MS JAP (HEWJ): ETF Research Reports
 
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