Guggenheim China Real Estate ETF (TAO)

Published on by on August 18, 2011

TAO At A Glance
Issuer: Guggenheim
Structure: ETF
Expense Ratio: 0.65%*
Inception Date: 12/18/2007
Largest Holding China Overseas Land & Investment**
Weight: 5.8%**
# Of Holdings 47**
AUM: $23.95M*
ADV 35,758*
2010 Gain (Loss): 10.68%
2009 Gain (Loss): 71.93%
2008 Gain (Loss): -55.4%
*As of 7/22/2011. **As of 7/6/2011

TAO is the only pure option available to investors seeking targeted exposure to the greater China real estate market. As such, the product is likely too targeted for most investors with a longer-term focus or a buy-and-hold strategy. Instead, TAO is more useful for those looking to make a tactical tilt towards this sector of the Chinese market, or for those who feel that fears over a property bubble are overblown.

Under The Hood

TAO seeks to track the AlphaShares China Real Estate Index which is a benchmark that is designed to measure the performance of publicly issued equity securities of companies and REITs. These securities must be open to foreign ownership and derive a majority of their revenues from real estate development, management and/or ownership of property in China or Special Administrative Regions such as Hong Kong and Macau.

China’s commercial real estate market has gone through periods of huge booms and busts. Prices for real estate in urban areas have skyrocketed as cities in both mainland China and Hong Kong have exploded. Some of the world’s most expensive property values are in the greater China region, and the rapid development of this industry has translated into huge gains for those with exposure to the Hong Kong and Chinese real estate markets.

There have also been some concerns of bubbles forming in this corner of the market as well. Compared to many other emerging markets, Chinese real estate is absurdly expensive. The abysmal performance of this fund in 2008 serves as a cautionary tale of the risks associated with investments in China’s real estate market.

TAO holds 47 companies and no one firm makes up more than 6% of the total assets. However, it should be noted that exposure is tilted heavily towards Hong Kong, as securities headquartered in that SAR make up roughly 72% of the fund’s total assets. Mainland firms make up the rest of the fund. China A-Shares and B-Shares are not eligible for inclusion in the underlying index, which holds H-Shares, Red Chips, and N-Shares trading in New York.

In terms of market cap exposure, the fund is pretty well spread out and could offer investors decent opportunities for growth in the future. Roughly 10% of the product consists of large caps, two-thirds are in mid caps, and the rest are in small and micro cap funds. This suggests that TAO has the ability to experience extreme levels of volatility over a short period of time, but the product could also see huge gains as well.

Many broad-based China ETFs include at least some exposure to real estate firms so there may be some overlap between this product and other China ETFs. However, with such a big focus on mid-cap securities, the risk of duplication is pretty low overall.

Pros

TAO is the only ETF option for pure play exposure to China’s real estate sector; investors looking to tap into this corner of the market don’t really have another option to choose from. That might be just fine, as this ETF does a nice job of maintaining a balanced portfolio (no stock accounts for more than about 6% of total assets) at a very competitive price point (the expense ratio of 0.65% is very reasonable, especially considering the nature of the exposure offered).

Investors should also consider the incredible potential in the Chinese real estate market in the years ahead, especially given the headwinds that the industry is now facing. These concerns have allowed TAO to trade with a PE below eight and a price to book value at 1.0. Given the tremendous potential, these valuations are particularly appealing.

Cons

The main problem with TAO is its heavy exposure to Hong Kong real estate firms. Hong Kong is an extremely developed and densely populated region of the world and growth will be minimal in the real estate market there for the foreseeable future. While there are strong ties between Hong Kong and the mainland, investors should be aware of the distinctions between the two economies.

Final Verdict

TAO can be a useful tool for fine tuning China exposure, giving investors access to an asset class that should generally exhibit relatively high volatility. Exposure to China’s real estate sector is often included in broad-based funds, so such precision may not be desirable for all investors (moreover, the utility as a tool to round out exposure is limited).

For investors looking to increase exposure to risky assets, TAO represents a way to bet on a high risk / high return corner of China’s equity market.

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