Maybe The Best ETF For Sticking With Australian Stocks

Several years ago, Australian stocks and the corresponding exchange-traded funds were hot commodities. The country had some of the highest interest rates in the developed markets, boosting the allure of its dollar for carry trade, while luring some international investors looking for dividend yields that were noticeably higher than in other developed markets.

For some investors, Australia was also a way to participate in China's growth without directly tapping Chinese stocks or ETFs. However, slumping commodities prices are wreaking havoc on Australia's equity market, while the specter of more negative dividend actions reduces the allure of one of the primary reasons foreign investors embraced Australian stocks.

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Australia's Dividend Story

Over the past two years, the iShares MSCI Australia Index Fund (ETF) EWA, the largest New York-listed Australia ETF, and the WisdomTree Pacific ex Japan Hgh Yd (ETF) AUSE are both down more than 30.5 percent. Both ETFs make the dividend yield on the S&P 500 look paltry by comparison. EWA's trailing 12-month yield is nearly 6 percent, while AUSE's is 4.6 percent. However, Australia's once attractive dividend story is imperiled.

“Despite cuts of over 50 percent to consensus earnings forecasts for virtually all commodity-related firms over the past year, the passively managed dividend funds we track still have, on average, 25 percent of their ASX exposures in either commodity producers or their supply chain,” according to a Goldman Sachs note posted by CNBC.

Iron ore giant Rio Tinto plc (ADR) RIO recently cut its dividend, and it is widely expected that BHP Billiton Limited (ADR) BHP will soon do the same, as CNBC noted. Those stocks combine for nearly 6 percent of EWA's weight.

Although its materials weight is slightly higher than EWA's, AUSE has managed to outperform its larger rival by nearly 200 basis points over the past year. AUSE currently allocates just over 3 percent of its weight to BHP Billiton and Rio Tinto.

As Goldman alluded to in the note posted by CNBC, Australia-listed ETFs are highly vulnerable to additional dividend shocks from the materials sector. AUSE and EWA can help investors skirt that problem, although in the case of the iShares Australia ETF, investors should be comfortable with the idea of Australian banks because financials account for 52.3 percent of that ETF's weight.

That sector is 22.4 percent of AUSE's weight. Additionally, the WisdomTree offering provides investors with some exposure to the Australian consumer, a theme that could improve as the interest rate environment there remains sanguine and the economy receives support from areas beyond materials and mining. Discretionary and staples stocks combine for 25.5 percent of AUSE's weight.