💰The Avantis Edge: Harvesting Value in Emerging Markets

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Welcome back, ETF UNO subscribers! Emerging Markets can be one of the most misunderstood areas of the global equity landscape. They offer significant growth potential but come with volatility and complexity. Many investors default to buying a cap-weighted index fund, hoping for the best.

Today, we’re highlighting the Avantis Emerging Markets Equity ETF $AVEM ( ▲ 0.96% ) . It isn’t just another collection of foreign stocks; it represents a unique investment philosophy designed to capture returns that traditional index funds may miss. Whether you’re looking to diversify geographically or target specific investment factors, AVEM is worth considering.

In this edition of ETF UNO, we’ll explore what makes AVEM stand out, its role in a modern portfolio, and examine the risks and rewards involved. Let’s dive in!

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What is AVEM?

Launched by Avantis Investors, the AVEM fund addresses a key issue: traditional emerging market indexes often favour the largest companies, regardless of their investment value.

AVEM aims to outperform standard passive strategies by using evidence-based insights. Think of it as a “smart indexer” that combines the low costs of ETFs with strategic tilts toward historically successful factors. Instead of focusing solely on large companies, AVEM invests in a diverse range of emerging market firms, prioritising lower-valued, higher-profitability securities.

AVEM aims to identify undervalued yet financially robust companies, often referred to as "needles." The firm benefits from indexing features, such as broad diversification and low turnover, while seeking to add value by making informed investment decisions based on current market prices. AVEM employs an efficient portfolio management and trading process designed to enhance returns while minimising unnecessary risks and costs.

The fund focuses on the key players in the developing world, with over 75% of its holdings concentrated in four major markets: China, Taiwan, South Korea, and India. These countries are vital for the growth of emerging markets, particularly in the following sectors:

• 💻Technology: Taiwan and South Korea

• 🏭Manufacturing: China

• 📈Services and the digital economy: India

While this concentration accurately reflects the current landscape, it also introduces specific risks, which will be discussed later.

Investment Strategy📊

How do we actually use this? AVEM should not necessarily replace your entire international allocation; rather, it should enhance it. Here are three implementation strategies:

• 🛰️Core-Satellite Emerging Markets Allocation: Allocate 70% of your Emerging Markets exposure to a broad, cap-weighted ETF as your core holding. Use AVEM for the remaining 30% to enhance value and profitability while retaining broad market exposure.

• 🧩Factor Replacement: If you believe that cap-weighted indexes are inefficient in emerging markets, you can use AVEM as a complete substitute for your standard emerging market allocation. This approach is bolder and reflects a strong conviction that value and profitability factors will outperform the broader market over the long term.

• ⚖️Dual Diversifier: For investors focused on U.S. growth stocks like those in the S&P 500 or Nasdaq, AVEM offers dual diversification benefits. It provides exposure to non-U.S. markets and balances value with growth investments, helping to reduce portfolio volatility during challenges faced by U.S. tech stocks.

Regardless of the strategy, AVEM is best held in an account with a long-term horizon of at least 5 to 7 years. Factor investing requires patience, as value cycles can take years to play out.

AVEM at a glance

ETF Issuer: Avantis Investors (a subsidiary of American Century Investments)

Inception: 2019-09-17

Asset Class: Equity

Underlying Index: AVEM is an active ETF

Geographical Focus: Emerging Markets

Expense Ratio: 0.33% (as of last data point)

Dividend Yield: 2.36% (as of last data point)

Distribution Frequency: Quarterly

Historical Performance

Since its launch in 2019, AVEM has navigated some of the most turbulent market environments in recent history. It began just months before the global pandemic, dealt with supply chain crises, geopolitical tensions, and faced a rapid rise in interest rates.

Although past performance does not guarantee future results, the data indicate an interesting trend. During the inflationary periods of 2021-2022, AVEM proved more resilient than standard cap-weighted emerging market benchmarks when "value" stocks outperformed "growth" stocks.

AVEM avoids the most expensive, hyped stocks in emerging markets, which lessened its impact during the 2022 tech correction. However, like all emerging market funds, it faces significant volatility and has underperformed the MSCI Emerging Markets Index during rallies driven by large-cap growth companies in China or Taiwan.

The key point for investors is that AVEM aims to perform well over full market cycles, not every year. It offers a smoother experience during downturns, even if it slightly lags during bullish trends.

ETF Radar View

The radar chart below shows the general characteristics of the ETF:

Top 3 Reasons to Invest

1. Intelligent Factor Exposure: Many emerging market funds are ineffective because they invest solely based on company size, increasing their share purchases when stock prices double. In contrast, AVEM focuses on undervalued, more profitable securities, which aligns with research indicating that these factors drive long-term returns. With AVEM, you invest in the more efficient segments of the market rather than the entire market.

2. Cost Efficiency: Active management in emerging markets can be costly, often exceeding 1% in fees. AVEM provides a systematic strategy akin to active management at a much lower cost. Its competitive expense ratio allows more of your investment to grow over time rather than be diminished by high fees.

3. Strong Growth Potential: Emerging markets offer faster GDP growth, younger populations, and expanding middle classes. Investors can tap into long-term structural growth trends by investing through AVEM.

Top 3 Reasons Not to Invest

1. Geographic Concentration Risk: Over 75% of the fund is concentrated in China, Taiwan, South Korea, and India. While these are strong economies, the lack of diversification into smaller emerging markets like Latin America and Africa poses a concentration risk. Regulatory issues in China or rising geopolitical tensions in the Taiwan Strait could significantly affect AVEM relative to a more diversified emerging market fund.

2. Factor Underperformance Cycles: Factor investing isn't a guaranteed solution; there can be long periods when value stocks underperform growth stocks, as seen in the 2010s. If you invest in AVEM, be prepared for times when it lags behind the benchmark. Panic selling during these periods locks in losses and can cause you to miss the eventual recovery.

3. Currency and Political Volatility: Emerging markets are riskier than developed markets due to currency fluctuations that can erase stock gains for U.S. investors and higher political instability. While AVEM's strategy manages stock selection risk, it cannot shield against changes in trade policies or nationalisation of industries.

🎯Unlocking Alpha in Emerging Markets

AVEM offers a sophisticated approach to investing in developing economies, moving beyond the simple strategy of buying the largest companies. It focuses on value and profitability, providing the ETF UNO community with a potential tool to enhance returns and improve international exposure.

However, it carries risks, including heavy concentration in Asian markets and volatility in the value factor. This ETF is best for investors who understand that emerging markets require a long-term perspective and who want to avoid the noise of speculative hype.

• 🎯Strategy: AVEM tilts toward undervalued, high-profitability companies.

• 🗺️Exposure: Heavily weighted toward China, Taiwan, South Korea, and India.

• 🧱Role: Works best as a core EM holding for factor believers or a satellite tilt for diversifiers.

• 📉Risk: Be prepared for volatility and for cycles of factor underperformance.

Investing is a journey, and having the right tools makes all the difference. We hope this deep dive helps you make a more informed decision about whether AVEM belongs in your portfolio.

We would love to hear your feedback on this analysis! Do you have any questions about integrating AVEM with your U.S. equity holdings? Join our dynamic ETF UNO newsletter to connect with like-minded investors who are eager to thrive in the ETF market. Together, we can build wealth more effectively and intelligently.

DISCLAIMER: This article is for informational purposes only and should not be considered as investment advice. Always conduct your own research and consult with a financial advisor before making investment decisions.