DVYE - DVYE: A High Yielding ETF That Carries Risks

2023-09-20 14:58:31 ET

Summary

• iShares Emerging Market Dividend ETF combines the investment themes of emerging markets and dividends.
• The fund's portfolio is heavily tilted towards materials and energy, with a significant portion invested in Brazil and China.
• Over the past 10 years, DVYE's performance has been erratic, and investing in a developed market ETF may have yielded better results.
• Do not look at dividend yield in isolation to movements in share price.

Investment Thesis

When we start on our own journey of investing it is natural that we will have certain preconceived preferences and biases.

After reading much literature and following business news, I noticed the excellent economic growth that took place in many of the countries in what is described as the emerging markets.

That caught my interest, especially after moving from the U.S. to Asia in the late 1980s.

There were many lessons to be learned from reading wise words from some of the investment titans, past and present. One that stands out for me, is the founder of Vanguard, John C. Bogle, which sadly passed away in 2019.

In his book "Don’t count on it" he wrote:

Dividend income has historically accounted for nearly 50% of the long-term nominal annual return and 75% of the real annual return. These stunning figures would demand that mutual funds highlight the importance of dividends, yet it is virtually ignored. Today (2010 ) the average domestic equity fund is offering a dividend yield of just 0.4%. The income was slashed by fund expenses.

With these two investment themes, being the emerging market and dividends, would it not be great if we could combine the two and get growth and dividends at the same time?

Emerging Market Dividend ETF

BlackRock ( BLK ) has an ETF for almost every possible investment segment. We cover several of those that invest in our main area of focus which is in Asia.

One ETF they manage covers both emerging markets and has a focus on dividend-paying companies within that sector. It is the iShares Emerging Markets Dividend ETF ( DVYE ).

The fund's net asset value, as of 30th of June 2023 was $617.9 million.

They use the Dow Jones emerging markets select dividend index as their benchmark. Net expense ratio is 0.49%.

The portfolio is heavily tilted towards materials and energy, with 37% of the portfolio in those two sectors which are quite cyclical.

Almost half of the fund’s portfolio is invested in Brazil and China.

Over the last 10 years, the performance has been erratic.

Emerging Markets

We need to start by defining what is an emerging market.

Investopedia defines it by stating that an emerging market economy is transitioning from a low-income, less developed, often pre-industrial economy towards a modern, industrial economy with a higher standard of living.

That leads us to ask which country is that?

IMF has 20 countries which they classify as emerging markets, while MSCI has 24 countries on their list. Standard and Poor, FTSE Russell, and Dow Jones also vary slightly in their classification.

We can focus on the IMF’s list of countries and here they are in alphabetical order: Argentina, Brazil, Chile, China, Colombia, Egypt, Hungary, India, Indonesia, Iran, Malaysia, Mexico, the Philippines, Poland, Russia, Saudi Arabia, South Africa, Thailand, Turkey and the United Arab Emirate.

Over the last ten years, we have heard many analysts and fund managers proclaim that they think “now is the time” when emerging markets are going to shine.

So far, it has not happened and we are not convinced that it will take place. The majority of funds from institutional investors are still channeled toward the developed markets. We do not see this changing any time soon.

Dividends

Anytime we come across an investment that gives us a yield of almost 10% we want to know if it is “too good to be true”

We should never look at the dividend yield in isolation. As we showed earlier, the fund has had 6 years of negative returns out of the last 10 years.

As the manager of the fund, BlackRock shows you would have lost money over the last five years even when you included the juicy dividends. Here is what would happen if you invested $10,000 in DVYE five years ago.

You would be left with just $9,165 if you had invested in DVYE five years ago, despite receiving as much as $12 per share in dividends over that period.

If you avoided the emerging markets, and simply bought an ETF that invests in the markets covered by BlackRock’s iShares MSCI World ETF ( URTH ), you would have done much better. You would be left with almost $15,000 despite their low dividend yield of just 1.59% on a TTM basis.

Here is a comparison of the share price of DVYE against URTH.

Clearly, investors would have been far better off investing in URTH.

Risks and Conclusion

The fact that the price of DVYE is not going up is a testament to the fact that those who do buy it require a nearly 10% yield to reflect the added risks involved.

As we described in our last article on Rio Tinto ( RIO ), many countries that have materials and energy in the ground also have challenging conditions with rules of law, corruption, and so forth. Geopolitical risks are another thing to consider. What will happen to China and Taiwan? Will it ever be re-united, and if so, will that be a peaceful and amicable reunification?

Last but not least, the risks of highly fluctuating currencies are another important risk to consider. All the investments and revenue are in currencies other than the US Dollar.

Finally, to conclude, we think of what Will Rogers once said that he was not so much concerned about the return on capital as he was with the return of capital.

How true, indeed.

This has also been the case with investing in DVYE.

We are astutely aware of the fact that past performance is not a good indication of what we can expect in the future.

Our stance is that of a Hold.

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