Should you invest in this popular but pricey emerging market ETF?

Analyst suggests retail investors are smarter than institutions in opting out of this particular deal

To buy or not to buy? That is the question worth asking of investors looking into buying iShares MSCI Emerging Markets ETF (EEM).

According to a report by Bloomberg, broad emerging markets indexes have risen steadily this year, with about $4 billion of inflows into the emerging markets so far − more than $3 million of which has gone to EEM.

EEM is, by far, the most expensive of the big emerging markets ETFs. It is four times more expensive than most of its peers. EEM came into the market 13 years ago as a game-changing product, but has since then saw the arrival of many cheaper, better designed, and increasingly liquid emerging market ETFs, including one from iShares itself, says the report. So why is EEM attracting a lot of hot money?

The report says EEM can get away with it because highly traded ETFs are often darlings of institutional investors, typically those with shorter trading periods and larger trade sizes. These investors don’t see the level of fees as a big consideration. With ETFs, it is typically the institutions that chase performance, and institutions that flock to the most-traded. So when highly traded ETFs see big inflows, most probably the money is institutional. According to Bloomberg data, hedge funds currently own more than 11 per cent of EEM, the biggest investor of which is Bridgewater, with 5.5 per cent.

EEM is also worst among its peers at tracking its index. This is due to its high expense rate of 0.69 per cent, which gets subtracted from returns.

EEM’s $2 billion a day in volume appeals to many institutional investors − which is why, the newswire speculates, BlackRock, doesn’t lower fees on EEM despite a fee war between Vanguard Group and Charles Schwab Corp. So while EEM is the eighteenth largest by ETF assets, with $26 billion, it ranks third in revenue generation − pulling about $175 million a year.

Retail investors, on the other hand, are increasingly buying into newer, cheaper emerging market ETFs over the past five years − arguably the smarter move since those investors are buying in at lower prices and paying lower fees, says the Bloomberg report. 

So while institutions appear to be blinded by ETF exchange volume, Bloomberg advises retail advisors not to be fooled, after all, “popularity doesn’t always equal smart.”