Chinese ETFs Still Hold Key to Returns

By Anthony Lawry

Electronically Traded Funds (ETFs) are one of the best assets for any investor. ETF-based portfolios nearly always outperform portfolios targeting specific equities and there are less fees associated with them than mutual funds. ETFs also tend to provide higher returns than fixed income assets or bonds. Also, China is still one of the best investment opportunities in the developing market arena. Since the market bottomed out in the summer of 2015, a number of Chinese ETFs have generously provided 75% to 100% returns on investments. Yet, with the promise of returns comes an expected amount of risk. And even if an asset are deemed risky, it may not even have the potential to provide even 5% in yields.

The lack of returns and dividends from world equities has been a problem facing investors for a number of months now. Ever since a "levelling out" of major indices in the wake of an "Everything Bubble", the confusion surrounding what investments are exposed to risk and which are not has only exacerbated the problem. Yet, emerging market equities, particularly ETFs, are still the best investing mechanism for gaining returns. Also, if risk is something you're not willing to stomach, it should be recognized that not all ETFs are created equally and not all ETFs have the same amount of risk.

Common Chinese Investments
For the learned investor, there are a number of go-to Chinese ETFs that should be familiar. For those looking at direct exposure to China, familiar Chinese ETFs include iShares FTSE China 25 Index Fund (NYSE: FXI), iShares MSCI China Index Fund (NYSE: MCHI), and SPDR S&P China ETF (NYSE: GXC). Yet, a closer examination of these funds by a number of metrics according to investment research and management firm Morningstar Inc. shows a different picture of these relatively successful funds.

All of these popular investment opportunities have a higher risk-to-return ratio, all of which are rated as having five out of five bars in risk and two to three bars out of five for returns. Dividends vary from 2% to 2.6%. Of course these are go-to options for a reason; from the bottom of 2015's market crash, they have all recovered a significant majority of their losses. These are the most popular Chinese ETFs by volume and market value, but again better options are out there for those looking for returns with lower levels of risk.

A Few Alternatives
For those looking for returns with a lesser degree of risk and 100% direct exposure to Chinese equities, Guggenhiem China All-Cap Fund (NYSE: YAO) and Guggenhiem China Small Cap ETF (NYSE: HAO) are two ETFs from Guggenhiem Partners. To begin, Guggenhiem China All-Cap Fund (NYSE: YAO) seeks investment results that correspond generally to the performance of an equity index called the AlphaShares China All Cap Index. Diversification of assets includes notable Chinese companies including Tencent Holdings Ltd., Alibaba Group Holding Ltd., China Mobile Ltd. And the China Construction Bank totaling 24.15% of its entire portfolio all of which are long holdings. Its yield distribution sits at 3.26% with $24.2 million in total net assets. The returns for this fund are high sitting at five out of five while the level of risk is rated at four out of five. In spite of its 'all-cap' nomenclature, it is mostly targeting large-cap equities.

As for Guggenhiem's Chinese small-cap counterpart, the fund has an 8% return year to date. As opposed to the all-cap Chinese fund, Guggenhiem's small-cap fund is much more diversified with the number of equities in which it holds. The top ten equities in which it invests in only accounts for 12.88% of the entire fund. In total, the ETF invests in more than 300 different Chinese small-cap firms, all of which are individually worth less than $2 million in market value. Over the past year, the ETF has progressed by more than 10% and upwards of 9% over the past five years.

Finally, one under-performing Chinese ETF that looks like it could be poised to increase in valuation is KraneShares CSI China Internet (NASDAQ: KWEB). As is evident by the name, this is essentially a technology sector large-cap fund including well-known equities such as Alibaba Group Holding Ltd., Tencent Holdings Ltd., Baidu Inc., and a number of lesser-known companies such as JD.com Inc., and NetEase Inc. Together, these top five investments make up 46.10% of the entire fund's portfolio. The fund will normally invest at least 80% of its total assets in equity securities of the underlying index, or in depositary receipts representing securities of the underlying index. If one is inclined to look at China's economy with a positive eye, this looks like an attractive fund especially considering its up nearly 10% for the year.

In general, it should be considered that China still remains somewhat of a risky market to invest in given the global and domestic uncertainty which could lead to volatility. Yet, with a healthy amount of risk comes a steady flow of returns. It is merely up to the investor to look at specific funds whose calculated risk corresponds with their own personal risk appetite and China provides a number of options no matter what kind of chance you're willing to take. Risk can be perilous, but also extremely profitable.

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