A COMPARISON OF GLOBAL STOCK ETFS -- WHY THEY NEED TO CLEAR THEIR FOURTH QUARTER HIGHS -- VANGUARD ALL-WORLD EX-US ETF OFFERS BETTER FOREIGN DIVERSICATION THAN EAFE ISHARES BY INCLUDING BRAZIL AND CANADA

EAFE ISHARES ... EAFE iShares (EFA) are viewed as the premier ETF for foreign developed markets. EAFE includes stocks in ten of the world's largest developed markets in Europe, Australasia, and the Far East. It's biggest weighting, however, is in Europe (57%). The United Kingdom is its biggest holding (22%), while an additional 35% is allocated to Switzerland, France, Germany, Spain, Sweden, and the Netherlands. Its non-Europe holdings include Japan, Australia, and and Hong Kong. [It doesn't, however, include Canada which I'll come back to shortly]. Even with that shortcoming, the EAFE is still a good barometer of most foreign developed markets. So its chart is worth studying. Chart 1 shows the EAFE iShares bouncing off chart support along their spring 2010 low. While that's encouraging, there still risk involved. It's possible to view the trendline drawn under the 2010-2011 lows as a possible "neckline" in a potential "head and shoulders" topping pattern. [That pattern includes two peaks (shoulders) surrounding a middle peak (head) which is the highest of the three]. The two circles show the first two peaks in place. That raises the possibility that the rebound that started during the fourth quarter is a "right shoulder". There's a certain symmetry to the pattern. Notice, for example, that the October 2011 peak near 55 is the exact level where the "left shoulder" formed in the spring of 2010. That makes 55 an important resistance level. Chart 2 shows EFA still trading below its 200-day moving average (red line) and its October peak near 55. In my view, EFA needs to close decisively above the 55 level to rule out the possibility of a head and shoulders top. Needless to say, it also needs to stay above its fourth quarter low (and neckline).

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Chart 1

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Chart 2

EMERGING MARKET ISHARES ... Emerging Markets iShares (EEM) are the most popular ETF for investing in that asset class. The EEM hold stocks in ten of the world's largest emerging markets, with its two biggest weightings being China (17%) and Brazil (15%). It also holds stocks in South Korea, Taiwan, South Africa, Russia, India, Mexico, Malaysia, and Indonesia. Its chart pattern is similar to the EAFE in Figure 1. A "neckline" is drawn under its 2010 and 2011 lows (green line). A red line is drawn over its spring 2010 and fourth quarter 2011 highs. The only difference is that the EEM is acting slightly better than the EFA. Chart 4 shows the EEM in the process of testing both its 200-day average and its October peak. A decisive close over 43 would be a positive development for that asset class and, possibly, for the rest of the world. That's because it's usually a good sign when emerging markets are leading developed markets higher.

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Chart 3

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Chart 4

EMERGING VERSUS DEVELOPED MARKETS ... The red line is Chart 5 is a ratio of Emerging Markets iShares (EEM) divided by EAFE iShares (EEM). The gray solid matter represents the Dow Jones World Stock Index. The chart suggests that world stocks do better when emerging market stocks are stronger than developed stocks (a rising ratio). The ratio fell during 2008 (when world stocks were weak) and rose throughout 2009 and 2010 (when global stocks were strong). It's also interesting that the ratio turned first at the 2009 bottom and the 2011 top. It turned up during the fourth quarter of 2008, which was months before stocks turned up. The ratio peaked at the start of 2011, which was also months before world stocks corrected. Chart 6 shows the EEM;EFA ratio in a declining trend between January of last year and Ootober. It also shows the ratio trading between two parallel trendlines. The good news is that the ratio has reached a new four-month high, which means that emerging markets are doing better than developed markets. In my view, however, the ratio still needs to clear the upper resistance line drawn over the highs of the last year to confirm that its yearlong downtrend has been reversed.

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Chart 5

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Chart 6

AN ALTERNATIVE TO EFA AND EEM... Investors wishing to invest abroard can use some combination of EAFE iShares and Emerging Markets iShares. There are, however, a couple of foreign exchange traded funds that combine those two asset classes, and offer a form of one-stop shopping for foreign diversification. My favorite one is the Vanguard All-World Ex-US ETF (VEU). The VEU includes stocks in 46 foreign countries, from both developed and emerging markets. One of the main reasons why I prefer the VEU to the EFA is that the former includes Canada. A second reason is that the VEU also has a 25% allocation in emerging markets which includes Brazil. Canada is in fact the second biggest holding in the VEU (7%). Brazil has a 4% weighting (as does China). By combining all of the world's largest foreign developed and emerging markets, the VEU offers investors a more conservative way to participate in foreign markets. Chart 7 compares the performance of the three foreign ETFs since 2009. The chart shows that the VEU trades in between the other two. Over the last three years, the EEM was the strongest (77%) while the EFA was the weakest (27%). The Vanguard fund came in right between the other two (42%). In my view, the VEU offers a better alternative to the EFA and a less risky way to participate in emerging markets. Chart 8 shows two reasons why EAFE iShares did worse than the VEU over the last three years. Two of the world's best performers since 2009 were Brazil (110%) and Canada (71%). EAFE iShares include neither one. Another foreign ETF that offers those same choices is MSCI ex US fund (ACWX). That fund did better than the EAFE over the same three years, but has lagged behind the Vanguard fund. Morningstar favors the VEU.

Chart 7

Chart 8

CHARTCON EARLY BIRD SPECIAL EXPIRES SOON... Early registration for Chartcon 2012, which will be held in Seattle during August, expires at the end of January. If you have any interest in attending, make sure to take advantage of that offer. Last year's event was a huge success. I thoroughly enjoyed meeting so many of our subscribers and having the chance to interact with them. Arthur Hill and myself will be there again, along with several other speakers that you're familiar with. Please go to https://stockcharts.com/chartcon for more information. I hope to see you there.