Emerging Markets on the Rise: Is Investing in EEM or VWO Worth the Risk?

3 weeks ago Aaron Steinman

When it comes to diversifying your portfolio, emerging markets often steal the spotlight. These are the economies that are growing rapidly but haven’t yet reached the stability of developed nations. Think Brazil, China, India, and South Africa.

Two of the most popular ETFs for accessing these markets are the iShares MSCI Emerging Markets ETF (EEM) and the Vanguard FTSE Emerging Markets ETF (VWO). But before you dive in, it’s important to understand what these funds offer, their risks, and whether they’re the right fit for your portfolio.

What Are Emerging Markets, Anyway?

Emerging markets are economies that are transitioning from developing to developed. They’re characterized by:

Rapid economic growth.
Increasing industrialization.
Expanding middle classes.

While these markets offer big growth potential, they’re also riskier due to political instability, currency fluctuations, and less developed financial systems.

The Contenders: EEM vs. VWO

iShares MSCI Emerging Markets ETF (EEM)

Tracks the MSCI Emerging Markets Index, which includes large- and mid-cap companies from over 20 emerging markets.
Expense ratio: 0.69%.
Known for high liquidity, making it a favorite for traders.

Vanguard FTSE Emerging Markets ETF (VWO)

Tracks the FTSE Emerging Markets All Cap China A Inclusion Index, offering broader exposure, including small-cap stocks.
Expense ratio: 0.08%.
Lower fees make it a go-to choice for long-term investors.

Key Similarities

Both EEM and VWO aim to provide diversified exposure to emerging markets. Their top holdings often overlap and include companies like:

Tencent (China)
Samsung Electronics (South Korea)
Alibaba (China)

Both ETFs cover a wide range of sectors, from technology to consumer goods and financials.

The Differences

1. Cost

EEM: High expense ratio (0.69%), which can eat into your returns over time.
VWO: Significantly lower expense ratio (0.08%), making it more cost-effective for buy-and-hold investors.

2. Index Coverage

EEM: Tracks the MSCI Emerging Markets Index, which excludes some smaller companies.
VWO: Includes small-cap stocks and companies from more countries, offering broader exposure.

3. Liquidity

EEM: Higher trading volume and tighter spreads make it better for active traders.
VWO: Slightly less liquid but still suitable for most investors.

4. China Weighting

China often dominates emerging markets ETFs.

EEM: Heavily weighted toward China (~30%).
VWO: A bit more diversified, with slightly less emphasis on China.

The Pros and Cons of Emerging Markets

Pros

Growth Potential: Emerging markets often outpace developed ones in terms of GDP growth.
Diversification: Investing in these markets can reduce your reliance on U.S. or European stocks.
Demographic Trends: Many emerging markets have young, growing populations, which can fuel long-term economic expansion.

Cons

High Volatility: Political instability, currency swings, and weaker governance can lead to wild price swings.
Concentration Risk: Many emerging markets ETFs are heavily weighted toward a few countries or sectors, like China and tech.
Currency Risk: Fluctuations in local currencies against the dollar can impact returns.

Should You Invest in Emerging Markets?

Emerging markets aren’t for the faint of heart. They can deliver massive gains during good times, but they’re equally capable of sharp declines during downturns. Here’s who might consider them:

Long-Term Investors: If you’ve got time to ride out the ups and downs, emerging markets can be a great growth play.
Diversification Seekers: Adding emerging markets can balance out a portfolio heavily focused on the U.S. or Europe.
Risk-Tolerant Investors: If you’re okay with volatility, these markets offer a chance to capitalize on global growth.

Which ETF Should You Choose: EEM or VWO?

Pick EEM If:
- You’re an active trader who values liquidity.
- You’re comfortable paying higher fees for better trade execution.
Pick VWO If:
- You’re a long-term investor looking to minimize costs.
- You want broader exposure, including small-cap stocks.

The Bottom Line

Emerging markets can be an exciting, high-growth addition to your portfolio, but they come with significant risks. EEM and VWO are two excellent options for accessing these markets, and your choice will depend on your investing style, risk tolerance, and goals.

For traders, EEM’s liquidity might be worth the extra cost. For buy-and-hold investors, VWO’s low fees and broader exposure make it hard to beat.

Either way, remember that emerging markets are unpredictable. Approach with caution, diversify wisely, and think long-term.