New Eastern Europe ETF: ESR

Friday, October 2 was launch day for iShares MSCI Emerging Markets Eastern Europe Index Fund (ESR).  The fund tracks, not surprisingly, the MSCI Emerging Markets Eastern Europe Index.  Emphasis should be on “Eastern” since Russia dominates ESR just as it once dominated the Warsaw Pact.

ETF sponsors have been racing to offer products for emerging, frontier and otherwise underrepresented markets for several years now.  Since the broader benchmarks are already well-covered, the pie is being sliced thinner and thinner with funds representing sub-regions and individual countries.  Global X FTSE Nordic 30 ETF (GXF) and Market Vectors Vietnam (VNM) are the two most recent examples.

The new iShares fund covers four nations: Russia, Poland, the Czech Republic, and Hungary.  According to the ESR Fact Sheet and fund overview, the country breakdowns for the index as of 6/30/09 were:

• Russia 74.6%
• Poland 12.9%
• Czech Republic 6.4%
• Hungary 6.1%

Obviously ESR is really a Russia-Poland fund; the other two countries comprise less than 13% of the portfolio.  The same source also reveals that slightly more than half of ESR is from one sector: energy.  In fact, some 25% of the fund is from one company, Russian energy giant Gazprom.

We could criticize MSCI for constructing its indexes this way, but they simply reflect the value the markets place on these countries and companies.  For better or worse, Eastern Europe is mostly Russia and Russia is mostly energy and Russian energy is mostly Gazprom.

In this regard, ESR is not unlike SPDR S&P Emerging Europe (GUR), though the SPDR offering is perhaps slightly more diversified with Turkey having the second largest country weighting at 14.6%.  GUR also has a cost advantage with an expense ratio of 0.59% versus 0.72% for the new ESR fund.  We suspect ESR will attract enough attention to stay off our ETF Deathwatch list; iShares is still the industry heavyweight.  We will watch to see if ESR can find its niche.

Disclosure: No positions