PowerShares launch PowerShares Fundamental Emerging Markets Local Debt Portfolio

New ETP 09.05.2013

The PowerShares Fundamental Emerging Markets Local Debt Portfolio is based on the Citi RAFI Bonds Sovereign Emerging Markets Extended Local Currency Index. The Fund generally will invest at least 80% of its total assets in the bonds issued by the national governments of emerging market countries that comprise the Index.

Index Snapshot

The Index measures the potential return of a portfolio of bonds issued by the national governments of 18 emerging market countries, all in the respective local currency. To be included in the Index, countries must have a domestic sovereign debt rating of at least CC by Standard & Poor’s (S&P) and Ca by Moody’s Investors Service, Inc. (Moody’s).

As of October 31, 2012, the Underlying Index included bonds issued by 18 national governments: Brazil, Chile, China (Offshore), Colombia, the Czech Republic, Hungary, Indonesia, Israel, Malaysia, Mexico, Peru, the Philippines, Poland, Russia, South Africa, South Korea, Thailand and Turkey.

Selection

The Citi RAFI Bonds Sovereign Emerging Markets Extended Local Currency Index uses specific government markets tracked by Citi. 

To be included in the index, countries must have a domestic sovereign debt rating of at least CC by S&P and Ca by Moody’s. An individual country’s removal from the index due to rating follows the methodology for Citi Fixed Income Indices.

The eligibility of the countries is verified annually in August based on the data available by July 31 (Country Selection Cut-Off Date), and the list of eligible countries is published on August 31. 

Changes become effective on October 31. 

Eligible countries as of October 31, 2012: Brazil, Chile, China Offshore, Colombia, Czech Republic, Hungary, Indonesia, Israel, Korea, Malaysia, Mexico, Peru, Philippines, Poland, Russia, South Africa, Thailand, Turkey.

Citi Fixed Income Indices measures the total rate of return of bonds with remaining maturity of at least one year. In addition, each market has a minimum size criterion designed to include only those bonds that are “reasonably available” for institutional investors under normal market circumstances. 

Citi Fixed Income Indices relies primarily on Citi traders for bond prices. In selected markets, following local convention, prices from third-parties are used to ensure completeness.

 

Review Frequency

While the eligible Countries are defined on an annual basis. The eligible constituents for each country are defined on a monthly basis. 

Several events can trigger a monthly reconstitution, for example, coupon flows, new issuance of eligible bonds, bonds aging out of the index, and reduction of amount outstanding below the index threshold caused by government buyback programs.

At the end of every month, a country’s market value is determined by multiplying the par amounts by the full prices of its bonds, and adding in any coupons received or other proceeds. 

The relative performance of the countries would likely result in a realignment of country weights away from the annually-specified RAFI weights. 

On every monthly reconstitution, except for October 31, January 31, April 30, and July 31, the ending market value of each country becomes the beginning market value for that country in the following month. The par amount and market value for the bonds in the country will be rescaled based on its market-capitalization weight to reflect the new weight of the country on a pro-rata basis.

 

Weighting

The weights for each country are determined once per year based on the RAFI methodology. 

Weights are based on country fundamentals rather than the amount of debt outstanding. Weights for each country are determined on August 31 and become effective on October 31. 

Each country is weighted by a combination of that country’s GDP, population, land area, and energy use. Research Affiliates gathers data for GDP (converted to a common currency using purchasing power parity), population, and land area from the World Bank, and data for energy consumption from the British Petroleum Statistical Use of World Energy Report. Research Affiliates uses five-year lagged average values for each of these metrics as the input for the country weights and then 
constructs four series of weights, one for each metric. The country weight in each of these is the proportion of that country’s GDP (or population, rescaled land area, energy use) to the aggregate GDP (population, rescaled land area, energy use) across all countries in the index. The composite RAFI weight for each country is determined by taking the equally weighted average of each country’s metrics across the four factors. For offshore markets, a country’s fundamental metric is scaled by the offshore market’s proportion of the country’s entire bond market.

The index is constrained to guard against excessive concentration risk. The annual weights are rescaled to improve index diversification. The sum of the weights of sovereign issuers whose individual weights are greater than 4.5% cannot equal or exceed 45% of the total index. The constraint is implemented in a series of steps. Sovereign issuers are first sorted into two groups by weight. Group S contains the issuers whose weights in the index are less than or equal to 4.5%; Group L contains those issuers whose weights are greater than 4.5%. If the total weight of the
sovereign issuers in Group L is under 45%, the diversification constraint is satisfied. Otherwise, the weight of the lowest-weighted issuer in Group L is reset to 4.5% and the weights of all issuers, in both groups, are re-normalized to total 100%. The process is repeated by resetting the second lowest-weighted issuer and onwards, until the index meets the diversification constraint. 

 

Weight Rebalance

At the end of every month, a country’s market value is determined by multiplying the par amounts by the full prices of its bonds, and adding in any coupons received or other proceeds. The relative performance of the countries would likely result in a realignment of country weights away from the annually-specified RAFI weights. On every monthly reconstitution, except for October 31, January 31, April 30, and July 31, the ending market value of each country becomes the beginning market value for that country in the following month. The par amount and market value for the bonds in the country will be rescaled based on its market-capitalization weight to reflect the new weight of the country on a pro-rata basis.

 

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