Ukraine Contraction Could Dent an ETF

Tumbling GDP in Ukraine, a large steel exporter, could eventually have implications for iShares EMU Index (EZU - commentary - Trade Now), though the situation is contained for now.

Ukraine reported a 15.9% decline in GDP, an "improvement" from the 17.8% drop in the second quarter. The government forecasts 3% growth for 2010 as the global economy helps to lift demand, and a 7.3% increase in steel sector production, in October, is a step in the right direction.

In the near term, the H1N1 virus may be the largest factor for the economy. The country has seen more than 1 million infections and 50,000 hospitalizations, even though the death toll remains very low. That hasn't stopped the media and government from stoking fears, however, and that will have an effect on commerce.

Ukraine has received IMF support to the tune of $16.4 billion, but $3.4 billion is being held after the government increased social spending -- the IMF agreement called for budget cuts.

The spending and flu policies are seen by critics as part of campaigning for the upcoming Jan. 17 presidential elections.

It is unlikely that ETF investors have any direct exposure to Ukraine. Two of the most likely, Market Vectors Steel (SLX - commentary - Trade Now) and Claymore/BNY Mellon Frontier Markets ETF (FRN - commentary - Trade Now), don't have any Ukrainian holdings. There's indirect risk via financials, however.

Fitch Ratings downgraded nine banks last week. French, Italian, German and Russian banks have stakes in six of them, ranging from 63% to 100%. A Ukrainian financial crisis could damage the European financial sector, hurting ETFs such as EZU.

Fitch also cut Ukraine's sovereign debt rating last week.

With 27% of assets in financials, I recommend reduced exposure to the iShares MSCI EMU Index and in other European ETFs that have large financial sector holdings.

At the time of publication, Dion had no positions in stocks mentioned.

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Don Dion is president and founder of Dion Money Management, a fee-based investment advisory firm to affluent individuals, families and nonprofit organizations, where he is responsible for setting investment policy, creating custom portfolios and overseeing the performance of client accounts. Founded in 1996 and based in Williamstown, Mass., Dion Money Management manages assets for clients in 49 states and 11 countries. Dion is a licensed attorney in Massachusetts and Maine and has more than 25 years' experience working in the financial markets, having founded and run two publicly traded companies before establishing Dion Money Management.

Dion also is publisher of the Fidelity Independent Adviser family of newsletters, which provides to a broad range of investors his commentary on the financial markets, with a specific emphasis on mutual funds and exchange-traded funds. With more than 100,000 subscribers in the U.S. and 29 other countries, Fidelity Independent Adviser publishes six monthly newsletters and three weekly newsletters. Its flagship publication, Fidelity Independent Adviser, has been published monthly for 11 years and reaches 40,000 subscribers.