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Building an emerging market portfolio without BRICs

A traffic policeman walks past a signage decoration for BRICS Summit outside the Sheraton Hotel, the venue of BRICS Summit in Sanya, China's Hainan province, April 13, 2011.

JASON LEE/REUTERS

Brazil relies heavily on demand from China for natural resources and many analysts believe China may be in for a serious economic slowdown. Russia is overly dependent on oil, which would likely go down in the face of China-lead global slowdown. India has a very primitive infrastructure and the population is very poor.

The above is merely a series of bullet points that outline the risks to investing in the BRIC nations which might explain why ETF provider Emerging Global recently launched the Beyond BRICs ETF (BBRC).

Avoiding the four BRIC countries creates the opportunity for the new fund to go much wider than most of the other broad emerging market funds which are dominated in Brazil, Russia, India and China. South Africa and Mexico are the two largest countries in the fund at around 18 per cent, followed by Malaysia at 15 per cent, Thailand 14 per cent and Indonesia at 12 per cent. Turkey, Chile, Colombia and Poland get very small weightings.

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The financial sector is the largest by far at 34 per cent, followed by telecom at 18 per cent and energy at 11 per cent. The tilt to these sectors is consistent with other broad emerging market funds because just about every country has a large bank, telephone company and oil company and these companies are often the largest in their respective home markets.

BBRC has 50 holdings and the EG Shares website says that the underlying index yields 3.25 per cent which after accounting for the 0.85 per cent expense ratio means the fund could yield 2.4 per cent. But as is the case with all ETFs, the actual payout is more of a question mark.

One item about the dividend for 2012: the fund just started this month and many foreign stocks pay only once a year and in the spring so it is unlikely that there will be much of a dividend this year.

The first paragraph noted some of the risks associated with the BRIC countries. But there are also risks associated with the countries that feature prominently in BBRC.

The story in South Africa relies heavily on mining of gold and platinum. In the last couple of weeks there have been reports of striking miners clashing with police and being killed at the Marikana mine which is operated by Lonmin PLC.

This tragic story underscores the fragility of the mining industry in South Africa, which can flare up at any time and this would likely be a drag on returns.

Mexico of course has its own issues with the decline of the Cantarell Oil Field's production, which hurts the economy from the top down. The Mexican government is committing resources toward replacing the production but the link to the country's prosperity and oil production are obvious.

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Every emerging market country has risk factors and so the point is not to avoid the exposure but understand the risks that threaten the investment in order to make an informed decision before purchasing. An investment is a series of pros and cons to be sorted out and decided upon.

The basic idea behind BBRC is to access countries that stand to come to prominence in the same manner that the BRICs have. If this plays out then the Beyond BRIC ETF would be a wildly lucrative hold.

At the time of publication, the author held no positions in any of the stocks mentioned.

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