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ETF Specialist

Pros and Cons of Equal Weighting EM Bonds

This emerging-markets bond ETF's equal-weighting methodology does not load up on the most-active debt-issuing countries, but it comes with its own challenges.

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 PowerShares Emerging Markets Sovereign Debt (PCY) provides equal-weighted exposure to the U.S.-dollar-denominated emerging-markets sovereign and quasi-sovereign bonds with at least three years until maturity. The exchange-traded fund targets bonds with the biggest zero-volatility spread and equally weights each country and issuers within each country. The fund has a cost advantage over its emerging-markets bond Morningstar Category peers and has outperformed most of them so far. However, its committee-based country-selection process is not consistent and repeatable, which limits the fund to a Morningstar Analyst Rating of Neutral.

This portfolio's credit-rating distribution is on par with its category peers. The split between the investment-grade and below-investment-grade groups is roughly half and half. That said, the sub-investment-grade portion still poses credit risks. Though rare, defaults of sovereign bonds do occur. Recent defaults include Ukraine (2015) and Argentina (2014).

Phillip Yoo does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.