Investors may remember 2007 as the year in which China caught the attention of nearly everyone, for both its booming economy and its bubbling stock market. But as a look at the top-performing exchange-traded funds shows, China was far from the only game in town.
Granted, China was well-represented among top funds. But ETFs focusing on other emerging markets also cracked the top 10, as did some energy and natural resources plays. The iPath MSCI India Index ETN (NYSE: INP) had an outstanding 86% return for the year, and the country continues to have many cheerleaders who believe it is a great alternative to investing in China. The Market Vectors Steel ETF (AMEX: SLX) was not far behind the leader, with a return of 84%, while Brazil was another familiar name, with the iShares MSCI Brazil Index Fund (NYSE: EWZ) coming in with a 75% return.
The emerging trend
Among the four BRIC economies, Brazil, India, and China continued to do well in 2007. Russia, however, lagged behind and didn't earn a place at the top of the list. Meanwhile, the energy and natural resources sector saw strength not just from traditional oil-related stocks but also from alternative energy plays.
On the negative side, the financial sector and real estate funds were obvious victims of the stalled housing market. Real estate looks like it will continue to face difficulty and is unlikely to pull out of its swan dive anytime soon.
The credit debacle has lowered the financial sector to levels that begin to look attractive for purchasers. However, investors in financial-sector funds should be cautious, as the subprime mortgage mess and off-balance-sheet blowups may not be over.
So far, investors who have attempted to time the bottom in the financial sector have ended up grabbing a falling knife blade. Yet for those intrepid investors who think they know when things will turn around, the Financial Select Sector SPDR (AMEX: XLF), down 19% for 2007, is one option to consider.
The falling dollar also played a role in the success of international stock ETFs. Although the weak dollar raised concerns about inflation and the sustainability of U.S. economic growth domestically, it could actually help stimulate the economy through exports, as U.S. goods become more affordable. Gold also has a tendency to move inversely to the greenback, and further dollar weakness might mean continued upward pressure on gold, which is already near record levels.
Industry trends
ETF sponsors continued to offer ever-finer slices of the market, opening up opportunities for investors looking to diversify their holdings. For instance, the iShares MSCI Chile Index Fund (NYSE: ECH) provides access to the emerging market of a small but stable South American country with a highly educated workforce. The Claymore/Clear Global Timber Index ETF (AMEX: CUT), on the other hand, gives individual investors access to a global sampling of publicly traded timber companies. Look for more specialized ETFs in 2008.
Looking ahead
If China has been any indication of the sustainability of a trend, then India's success in 2007 may well carry over into 2008 and beyond. India is different from China in a number of ways, however, so investors should be wary of carrying this comparison too far.
Whether energy and natural resources ETFs will continue to be leading performers in 2008 is a tough call. If global economic activity slows, there could very well be declines in energy prices, hurting ETF returns. Similarly, gold also seems richly priced -- but the metal could benefit from political and economic instability and could be a profitable, although risky, ETF investment.
Emerging markets and natural resources both offered investors handsome profits over the past year. As long as the global economy does not suffer a significant decline, these trends seem likely to continue in 2008. Investors simply have to decide exactly where they want to focus their investing efforts.
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