How Hard will Brexit be on UK and Pound ETFs


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Prime Minister Theresa May hinted toward a hard Brexit setting spotlight back on UK and Pound ETFs. May's comments on leaving EU have fueled speculations that the U.K. will prioritize controlling immigration over access to Europe's single market. May plans to start official exit negotiations by the end of the first quarter of 2017. However, there is not much clarity on the government's strategy (read: 6 Biggest ETF Stories of 2016 Worth Watching in 2017 ).

As per the Treasury, a 'hard Brexit' -  implementation of firmer regulations on EU immigration, exit from the EU single market and imposition of trade barriers between the two parties - may lead the U.K. to lose about £66 billion (per year) and reduce its GDP by nearly 9.5% after 15 years. Lower GDP growth and tougher export conditions would hit several sectors like retail and financial services among others and therefore have an unfavorable impact on British equities.

The impact of Brexit has so far been currency-related with the pound seeing a lot of volatility. In June 2016, the British pound dived to a three-decade low and recovered in the ensuing period only to sink again to a 31-year low as soon as talks of materialization of Brexit resurfaced.

Several analysts expect the effects of the Brexit vote and the fall in pound to finally start to feed through in the coming months. The current strength of the economy is unlikely to continue. European Central Bank president Mario Draghi has warned that Britain will suffer more than Eurozone due to Brexit. He also called for clarity over the negotiation process, which will govern the country's departure from the EU.

The Office for Budget Responsibility, which provides independent economic forecasts and analysis, expects the economy to grow 1.4% in 2017, down from the 2.2% forecast made in March 2016. It has also lowered its growth forecast for 2018 and expects the economy to grow 1.7% instead of 2.1%.

Optimism among U.K. companies has been the lowest in the last four years as per the latest Markit Business Outlook survey. On the other hand, inflationary pressure is expected to deal a heavier blow next year, reflecting weakness in pound. These factors could lead to a sharp decline in consumer spending (read: UK Votes for Brexit: ETFs Winners & Losers ).

Strength in UK Economy

However, dispelling fears of an immediate recession post Brexit, the U.K. economy grew 0.5% in the third quarter. The quarter marked the 15th consecutive quarter of growth for the economy. Going by the third-quarter numbers, the U.K. appears to be one of the strongest growing economies in Europe (read: UK ETFs in Focus As the Economy Defies Brexit Fears ).

The growth was supported by an increase in export and stronger consumer spending. In the U.K., gross domestic product rose 2.3% in the third quarter on a yearly basis. As per the Office for National Statistics (ONS) data business, investments grew 0.9% in the quarter. The business investment figures are highly encouraging. The British economy has continued on the growth path following the vote to leave EU, defying conjectures that it would be affected by the decision.

Meanwhile, the services sector performed well, increasing 0.8% in the quarter. Data from sectors like manufacturing, agriculture and construction were a bit of a disappointment (read: Will Financial ETFs Forget Brexit and Gain on Decent Q2 Earnings? ).

In this scenario, we highlight three ETFs that are primarily exposed to British equities and two sterling currency funds, which are likely to be on investors' radar in the coming days (see: all the European Equity ETFs here ).

iShares MSCI United Kingdom ETF EWU

This product tracks the MSCI United Kingdom Index. In total, it holds 109 securities with more than 40% of its assets allocated to the top 10 holdings. EWU is popular and actively traded with an AUM of $2 billion and average daily volume of more than 1.9 million shares. The ETF charges 49 basis points (bps) in annual fees. It has a Zacks ETF Rank #3 or 'Hold' rating with a Medium risk outlook. The fund has gained 1.7% in the last ten days (as of January 9, 2017).

First Trust United Kingdom AlphaDEX ETF FKU

This fund provides exposure to 75 firms by tracking the NASDAQ AlphaDEX United Kingdom Index. The fund has amassed $27.9 million in its asset base while it has an average daily volume of more than 14,000 shares. None of the firms account for more than 3% of the total assets. FKU charges a fee of 80 bps annually and has a Zacks ETF Rank #3 with a Medium risk outlook. The fund is up almost 2% in the last ten days (read: UK Economy Continues to Grow Despite Brexit: ETFs in Focus ).

iShares MSCI United Kingdom Small-Cap EWUS

With an AUM of $22.3 million, this product tracks the MSCI United Kingdom Small Cap Index. In total, it has a diversified portfolio of 243 securities with none of the components holding more than 2% weight. The ETF has an expense ratio of 0.59% and trades in light volume of around 10,000 shares a day. The fund gained 1.8% in the last ten days and has a Zacks ETF Rank #3 with a Medium risk outlook.

Guggenheim CurrencyShares British Pound Sterling Trust FXB

The fund tracks the price of the British Pound Sterling. With the U.K. currency in a tight spot, the fund lost around 1% in the last 10 days. With an AUM of $301.4 million, it is the most popular pound ETF. The ETF has an expense ratio of 0.40% and trades in volume of around 116,000 shares a day. The fund has a Zacks ETF Rank #3 with a Medium risk outlook (read: Currency ETF Winners & Losers Post Trump Win ).

iPath GBP/USD Exchange Rate ETN GBB

With AUM of $4.1 million, the fund provides exposure to the British pound/U.S. dollar exchange rate. The fund lost 1% in the last ten days. The ETF has an expense ratio of 0.40% and trades in light volume of less than 2,500 shares a day and has a Zacks ETF Rank #3 with a High risk outlook (see: all Currency ETFs here ).

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CRYSHS-BRI PD S (FXB): ETF Research Reports

FT-UTD KINGDOM (FKU): ETF Research Reports

ISHARS-MS UK SC (EWUS): ETF Research Reports

IPATH-GBP USD (GBB): ETF Research Reports

ISHARS-UTD KING (EWU): ETF Research Reports

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.



This article appears in: Investing , ETFs
Referenced Symbols: FXB , FKU , EWUS , GBB , EWU


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