Foreign equities have long been a portfolio staple among investors, as this corner of the market has the potential to deliver uncorrelated returns and key diversification benefits. But for those willing to stomach a higher level of risk, adding exposure to smaller capitalization firms from around the world is a compelling strategy, since these companies typically have greater growth potentials than their large-cap counterparts. Below we outline three ex- U.S. small cap ETFs that have been battling for investor attention: the FTSE All-World ex-US Small Cap Index ETF (VSS, A), MSCI EAFE Small Cap ETF (SCZ, A), and the Emerging Market SmallCap Fund (DGS, A) [Download How To Pick The Right ETF Every Time].
Together, these three funds have amassed more than $4.8 billion in assets under management, making them by the far the most popular funds offering exposure to small caps outside the U.S. Vanguard’s VSS casts a significantly wider net over the space, investing in more than 3,000 securities from both emerging and developed markets. iShares’ SCZ, on the other hand, focuses only on the EAFE region – Europe, Australia, and the Far East. WisdomTree’s DGS is also a compelling option as this fund selects its holdings from a universe of dividend-paying small cap stocks from emerging market countries.
Across the board, these three funds have seen positive inflows over the last several years. In 2011, however, a turbulent market led many investors to grow uneasy with the high level of risk associated with this corner of the market. And while from a size perspective, SCZ is the largest of the three funds, DGS has been able to rake in significant assets over the last year and a half [see Ex-U.S. Portfolio].
In regards to performance, 2010 and 2012 were good years for all three ex-U.S. small cap funds. In 2011, however, risk adverse investors pulled out of these investments, choosing instead to park their assets in safer large-cap securities. Year-to-date, foreign equities have struggled to stay afloat as global economic uncertainty continues to weigh heavily on this market.
The Bottom Line
While these ETFs certainly have significant downside risk, given their exposure to small-cap equities outside of the U.S., their strategies are still quite compelling for those willing to take on higher levels of risk. Considering the growth potentials, investors may see the funds’ current depressed prices a great buying opportunity [see Single Country ETFs: Everything Investors Need To Know].
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Disclosure: No positions at time of writing.