IQ Small Cap Hong Kong ETF (HKK)
|HKK At A Glance|
|Largest Holding||Skyworth Digital Holdings**|
|# Of Holdings||100**|
|2010 Gain (Loss):||n/a|
|2009 Gain (Loss):||n/a|
|2008 Gain (Loss):||n/a|
|*As of 7/22/2011. **As of 7/6/2011|
HKK is a fairly new product to hit the market and will likely gain more popularity as investors take notice of the unique exposure offered by the fund. This ETF differs considerably from many of the other options offering exposure to China and Hong Kong, and should have appeal as a means of establishing well rounded exposure to an interesting Asian economy that may offer an indirect way into mainland China.
Under The Hood
HKK seeks to replicate the IQ Hong Kong Small Cap Index, a benchmark that includes about 100 small cap stocks. Thanks to its cultural ties to China but its western approach to capitalism, many investors have decided to make Hong Kong a tactical addition to their portfolios in order to profit from the economic boom in China but with lower levels of geopolitical risk. The components of HKK are likely unknown to most investors; this ETF doesn’t include huge financial institutions or oil companies, but rather smaller companies that may offer up more of a “pure play” on the Hong Kong economy.
As mentioned in the previous report, establishing exposure to China through Hong Kong may have some appeal to investors looking to minimize some of the risk factors that come along with investments in emerging markets. Because Hong Kong maintains high levels of autonomy from a political perspective but close economic ties with China, the risk/return profile offered by this equity market is potentially exciting.
The most noteworthy element of HKK is the focus on small caps as opposed to large cap stocks that dominate most international ETF portfolios. There are several aspects to consider when comparing large cap and small cap Hong Kong stocks. Whereas large cap stocks may generate revenue regionally or even globally, small caps are more likely to depend on local consumption, potentially strengthening their relationship to the Hong Kong economy.
From a sector allocation perspective, HKK maintains a mix that varies considerably from more popular large cap funds. HKK allocates roughly one quarter of its total assets to consumer discretionary holdings, which are often grossly underrepresented in other China ETFs available. Other large weightings go to financials, basic materials, and technology, while minimal allocations are made towards the energy, utilities, and health care sectors. Compared to the large cap heavy EWH, which allocates roughly 60% of its portfolio to financials, this ETF delivers much more balanced exposure.
It should also be noted that the fund’s holdings are remarkably spread out and not top-heavy by any means; no one security makes up more than 2.5% of the total assets suggesting that a single company or even a group of firms will not dominate HKK’s risk/return profile.
The potential advantages of HKK are numerous; this ETF offers impressive levels of diversity, with a long line of holdings in which no single security is overweighted. The fund is also careful to spread out its assets across various market sectors that many large cap funds skip over altogether. Additionally, the small cap exposure offered by HKK can serve to round out exposure to this Asian economy across all corners of the growing economy.
The biggest drawback of this ETF is the expenses; HKK costs quite a bit more than the large cap heavy EWH. For some investors the expense differential—about 16 basis points—may be well worth it considering the huge upgrade in balance of holdings and diversification beyond the financial sector.
Another area of potential concern regarding HKK is its liquidity, which is not very high compared to similar products on the market. With low AUM and a volume that likely does not support active traders, investors should be careful to use limit orders when establishing a position. Low trading volumes and asset bases are certainly not reasons to avoid an ETF, but are indications that caution should be used.
Small cap exposure should be a part of any complete investment strategy, and HKK is a nice way to achieve access to the local Hong Kong market.
For investors interested in achieving exposure to China through the SAR of Hong Kong, there are two ETF options: EWH and HKK. These funds are similar in some ways, yet drastically different in others. HKK offers impressive balance of holdings and broad-based exposure to every sector of the market, making it potentially useful in a comprehensive China strategy.
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