Aim at Spain's Gains

Strong economic growth and low rates should help propel this country ETF.
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There are many single-country ETFs, and most of them get very little notice. One that flies under the radar is iShares MSCI Spain Index Fund (EWP) - Get Report.

How under the radar is it? EWP has $159 million in assets, compared with a whopping $13.5 billion in the

iShares Japan Index Fund

(EWJ) - Get Report

, the largest single-country exchange-traded fund.

Spain may seem like an obscure investment option, but its recent economic gains and low interest rates have paved the way for potentially strong stock market growth in the country. I believe foreign exposure is becoming more important as an investment theme, and Spain merits consideration.

Europe, generally speaking, has been outperforming the U.S. The U.S. is closer to the end of its economic cycle than Europe is, implying that if the European economic expansion still has a way to go, so might the stock market expansion.

Moreover, Spain is growing faster than Europe. Spain's first-quarter gross domestic product grew 3.5%, compared with 2% for the eurozone (the subset of European states that has adopted the euro). In fact, Spain's GDP growth has outpaced the eurozone in every quarter since the first quarter of 2003.

The trade-off for higher growth, as you might expect, is higher inflation. Spain's June consumer price index came in at 4%, compared with 2.5% for the eurozone. The CPI has been running hotter than the region since at least 2002 (as far back as the data on the Banco de España Web site). Despite higher GDP and CPI rates, yields on 10-year Spanish debt is consistent with the rest of the continent, at about 3.90%.

The Spanish stock market stands to do well because relatively low interest rates could spur growth. Spain has interest rates that are lower than they would be otherwise, given its growth rate, because it is a member of the slower-growing eurozone, and its interest rates are set in tandem with the member nations.

The iShares Spain, or EWP, represents one way to capture these gains. EWP has some track record for trading similarly to the

iShares MSCI EAFE Index Fund

(EFA) - Get Report

, which is often considered the standard for overseas investing.

As the chart below shows, EWP has been pulling away this year, which I believe is because of Spain's faster growth rate. Investing in Spain makes sense if you believe that its faster GDP growth will continue to mean better stock market performance than the rest of Europe.

Mucho Dinero
Spain's ETF outperforms the U.S. and international indices

Source: Big Charts

Like most single-country products, there are a couple of diversification quirks in the ETF. The top three stocks --

Banco Santander




(TEF) - Get Report


Banco Bilbao Vizcaya


-- account for 48.5% of the fund. It is unlikely that the Spanish market or this fund will continue to thrive unless all three of these stocks continue to do well.

Becasue two of the top three stocks in the ETF are in the financial sector, that sector is the heaviest in the fund, with a 38% weighting. Telecom is second at 16%, and utilities make up 15% of the fund.

The fund pays its dividend once a year. For 2005, it paid 74 cents, which as of the pay date was a 2% yield. That's slightly better than the S&P 500's 1.7% yield.

A possible future macro catalyst for Spain could be the global trend of petrodollars tied to the sale of oil and other foreign reserves that are rotating out of U.S. dollars and into euros. If this continues to play out, as I believe it will, some of that capital may seek out the higher growth of Spain.

There are, of course, risks. The combination of fast growth and low interest rates may lead to too much inflation, or the country's GDP growth may slow dramatically. Neither seems imminent. Finance Minister Pedro Solbes was recently quoted on

as saying that the 3.3% GDP forecast for 2006 is too low.

At the time of publication, Nusbaum was long Telefonica as a client holding, although positions may change at any time.

Roger Nusbaum is a portfolio manager with Your Source Financial of Phoenix, Ariz., and the author of Random Roger's Big Picture Blog. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Nusbaum appreciates your feedback;

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