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Article

Improving Emerging Market Equity Performance through Equal-Weight Country Indexing

R. McFall Lamm
The Journal of Index Investing Spring 2011, 1 (4) 18-30; DOI: https://doi.org/10.3905/jii.2011.1.4.018
R. McFall Lamm Jr.
is chief investment officer at Stelac Advisory Services, LLC, in New York City, NY.
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  • For correspondence: mac.lamm@stelac.com
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Abstract

Capitalization-weight orthodoxy now dominates in the equity indexing world despite the fact that research indicates it is inefficient and underperforms valuation-indifferent approaches. However, a more important issue for multinational indices—especially in the case of emerging markets—is the method used to determine country weights. Pure cap-weighting allows country exposures to indiscriminately fall out of the bottom-up aggregation process, which significantly over-concentrates risk in only a few countries. This study demonstrates that employing an equal country weighting scheme for emerging markets would have hugely outperformed cap-weighting for the past quarter century. Equal weighting reduces risk by increasing diversification across divergent macro policy regimes and is mean–variance optimal in a special case. In contrast, cap-weighting forces investors into riskier exposure to overvalued markets and is mean–variance inefficient. Unfortunately, there are no equal-weighted broad emerging market indices or commercial products available. Using emerging market country ETFs offers a partial solution, although the full range of emerging markets is not covered and liquidity is sometimes limited.

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The Journal of Index Investing: 1 (4)
The Journal of Index Investing
Vol. 1, Issue 4
Spring 2011
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Improving Emerging Market Equity Performance through Equal-Weight Country Indexing
R. McFall Lamm
The Journal of Index Investing Feb 2011, 1 (4) 18-30; DOI: 10.3905/jii.2011.1.4.018

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Improving Emerging Market Equity Performance through Equal-Weight Country Indexing
R. McFall Lamm
The Journal of Index Investing Feb 2011, 1 (4) 18-30; DOI: 10.3905/jii.2011.1.4.018
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  • Article
    • Abstract
    • DEFICIENCIES OF CAPITALIZATION-WEIGHTING SCHEMES
    • VALUATION AND FACTOR-INDIFFERENT INDEXING
    • THE INTELLECTUAL APPEAL OF EQUAL COUNTRY WEIGHTS
    • EQUAL COUNTRY WEIGHTS OUTPERFORM
    • IMPLIED RETURNS IN CAP WEIGHTS
    • DISTRIBUTIONAL CHARACTERISTICS
    • IMPLICATIONS AND CONCLUSIONS
    • Appendix
    • ENDNOTES
    • REFERENCES
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