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5 Top Japan ETFs

Investing in Japanese stocks has given investors a topsy-turvy ride over the years. The island nation has lost its status as the world's No. 2 economy to China, but Japan still stands as a bastion of technological strength.

To invest in Japan, many investors use exchange-traded funds, and there are many ETFs that focus solely on the Japanese market. The following five Japan ETFs offer different slices of the Japanese stock market, making them useful for investors with different goals and needs.

Japan ETF

Assets Under Management

Expense Ratio

5-Year Average Annual Return

iShares MSCI Japan (NYSEMKT: EWJ)

$16.5 billion

0.48%

9.1%

WisdomTree Japan Hedged Equity (NYSEMKT: DXJ)

$8.44 billion

0.48%

14.7%

Deutsche X-Trackers MSCI Japan Hedged Equity (NYSEMKT: DBJP)

$1.80 billion

0.45%

15.9%

iShares Currency Hedged MSCI Japan (NYSEMKT: HEWJ)

$1.22 billion

0.49%

9.5%*

WisdomTree Japan SmallCap Dividend (NYSEMKT: DFJ)

$510 million

0.58%

12.4%

Data sources: Fund providers. *Since inception on Jan. 31, 2014.

A simple look at the Japanese stock market

If you're looking for a simple index fund tied to Japan's stock market, then the iShares MSCI Japan ETF is the easiest way to go. This popular fund is the primary investment vehicle for institutional investors using ETFs to get Japanese stock exposure. Industrials and consumer discretionary stocks make up 40% of the portfolio, with financials and technology stocks combining to make up another quarter of the fund's assets. On the whole, the fund is well-rounded, with a market-cap weighted portfolio of more than 300 stocks. With trading volume of nearly 6 million shares each day, investors enjoy liquidity even amid turbulent market conditions.

Hedging your bets

One issue for U.S. investors with exposure to Japanese stocks is currency risk. If the U.S. dollar rises in value against the Japanese yen, then an unhedged ETF will suffer currency losses that can offset any gains in the underlying Japanese stock market. During a period of dollar strength, many investors found that currency risk undesirable, and so multiple ETFs arose to hedge out currency risk. The result was to give investors a return closer to the local-currency returns of Japan's major stock-market indexes.

You can see how that has worked out with the pioneering WisdomTree Japan fund. Returns are more than five percentage points better on an annual basis over the past five years, even though the exposure that the fund provides is extremely similar to that of the iShares broad-market fund, with about 400 stock holdings. The currency hedges can detract from returns when the yen is strong, so over the long run, a lot depends on the future direction of the dollar compared to the Japanese currency.

Image source: Getty Images.

Other entries in this realm look similar. The Deutsche ETF has just over 300 stocks, tracking the dollar-hedged version of the same MSCI index that the iShares unhedged ETF tracks. Its industry allocations are almost identical to the iShares fund, and the relative outperformance compared to the WisdomTree fund hinges largely on slightly different sector allocations across the ETF.

The iShares hedged ETF actually uses a very simple approach: It owns shares of the standard iShares unhedged ETF and then adds the currency hedge positions to the mix. That way, the company benefits from the work that the other fund already does, adding to liquidity and generally improving efficiency.

Looking smaller

Among top Japan ETFs, most of the focus is on large companies. But the WisdomTree Japan SmallCap Dividend ETF has a different objective, looking for income from smaller Japanese companies. The ETF has a distribution yield of 3.6%, reflecting the emphasis on dividend-paying stocks within the fund's holdings. The sector allocations for the fund are slightly different from its large-cap ETF peers, although again, industrials and consumer discretionary stocks make up nearly half the portfolio. A greater allocation to materials stocks and less emphasis on tech stocks reflect the dividend objective of the fund; it's a good way to profit from Japan's internal growth prospects, rather than solely focusing on large exporters.

Which Japan ETF is best for you?

Most investors have chosen either to go with unhedged performance from the primary iShares Japan ETF, or with currency hedges through the WisdomTree fund. For those seeking greater exposure to Japan, the WisdomTree small-cap dividend fund also has value by bringing a different set of stocks into the equation. Any of these ETFs can bring international exposure that can be beneficial to U.S. investors.

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Dan Caplinger has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.