ETF Goes Deeper Into Emerging Markets

The WisdomTree Dreyfus Emerging Currency Fund(CEW Quote), WisdomTree's newest exchange-traded fund, may help investors outperform markets more than some stock-and-bond mutual funds.

WisdomTree sells seven single-currency funds. WisdomTree Dreyfus Emerging Currency Fund is a basket of currencies equally weighted to the Mexican peso, Brazilian real, Chilean peso, South African rand, Polish zloty, Israeli shekel, Turkish new lira, Chinese yuan, South Korean won, Taiwan dollar and the Indian rupee. The fund rebalances quarterly.

The fund's function is to provide access to the currency fluctuation of a diversified emerging market basket along with money market yields from those countries. It will have small positions in the requisite currencies via swaps contracts, which will be collateralized by U.S.-denominated money market instruments. The swaps will provide the foreign exchange exposure.

Emerging market currencies is a relatively new asset class for access in a brokerage account. Currencies typically don't offer the potential growth of individual stocks, but, used properly and in moderation, offer excellent diversification by reducing a portfolio's correlation to the broader market and enhancing performance.

WisdomTree said that, using a 10% allocation to emerging market currencies, there are various levels of outperformance when compared with multiple stock-and-bond combinations over a decade. It seems intuitive that emerging market currencies would enhance returns and reduce volatility, but I would note that the firm's back-test avoids the so-called Asian contagion of 1997. It would be foolish to think emerging markets will be immune from future crises.

The 10 years studied in preparing the fund also benefited from a 6 ½-year decline in the dollar. The U.S. currency has been in an uptrend since last summer. With currencies, the obvious trade doesn't have to work out as planned.