This Local Debt ETF Is An Economic Growth Play

Amid lingering concerns about slowing global economic growth, one of the 2012's most prominent ETF themes has the potential to keep thriving in 2013. That theme being the soaring popularity of emerging markets local currency bond ETFs.

ETFs such as the Market Vectors Emerging Markets Local Currency Bond ETF (EMLC), iShares Emerging Markets Local Currency Bond Fund (LEMB) and the actively managed WisdomTree Emerging Markets Local Debt Fund (ELD) were home to impressive gains in assets under management last year as investors sought out the stronger currencies and government balance sheets offered by some developing markets.

Those funds are diverse at the country and region levels. For example, ELD, which has over $1.6 billion in AUM making it the second-largest actively managed ETF on the market today, spreads its country allocations between Asia, Africa, Europe, Latin America and the Middle East. In 2013, some investors may want to consider a more focused bet on bonds issued in local emerging markets currencies.

"As investors adjust their portfolios to account for potentially lower levels of output growth in 2013, many might consider a greater allocation to countries that, as a region, are currently growing at the fastest pace globally," said WisdomTree Portfolio Manager Rick Harper in a research note.

Harper continued: "After a year that has seen modest regional currency underperformance compared to Emerging Europe and Latin America due to concerns about a prolonged slowdown in China, 2013 could provide a positive backdrop for Asian outperformance as investors shrug off earlier economic concerns. When focusing on fundamentals, we believe the prospects for Asia are indeed some of the brightest across the developed as well as the emerging markets."

Investors can easily tap into the theme of strong Asian currencies through the WisdomTree Asia Local Debt Fund (ALD). ALD, which will celebrate its second birthday in March, is home to $458 million in AUM. That makes it one of the largest actively managed ETFs.

Importantly, ALD has gained about 7.3 percent in the past year and the fund pays a monthly dividend, adding to its allure for income investors looking for some non-dollar or international exposure. More importantly are the facts that ALD's constituent currencies are arguably undervalued and carry higher interest rates than what can be found in much of the developed world.

"Currently, interest rates are approximately three times higher in Asia than in many developed markets (providing a distinct carry advantage)," said Harper. "While higher interest rates have attracted some investors, these countries' projected growth rates lead many economists to call for continued appreciation of their currencies against the U.S. dollar. On average, currencies in ALD are undervalued compared to their long-term purchasing power by 18%."

With expectations firmly in place for the Federal Reserve, the Bank of Japan and other developed market central banks to continue engaging currency-depressing easing programs, higher-yielding Asian currencies become all the more attractive.

Regarding ALD, the ETF is not as risky either at the credit level or the country level as some investors may think. With Singapore, Australia and New Zealand combing for almost 28 percent of ALD's weight, the fund offers significant developed markets exposure. At the credit level, roughly two-thirds of the fund's holdings are rated AAA, AA or A.

Other country weights include South Korea, Thailand, Malaysia, Indonesia, the Philippines, China, Taiwan and Hong Kong.

By The ETF Professor