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UK Economy Continues to Grow Despite Brexit: ETFs in Focus

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Dispelling fears of an immediate recession, the UK economy grew 0.5% in the third quarter. This quarter marks the 15th consecutive quarter of growth for the economy. Going by the third quarter numbers, UK still 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. UK’s gross domestic product rose 2.3% in the third quarter on a yearly basis. As per the Office for National Statistics (ONS) data business, investment grew 0.9% in the third quarter. The business investment figures are highly encouraging. The British economy has continued on growth path following the vote to leave EU, defying conjectures that it would be affected immediately by the decision.

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

The impact of Brexit has so far been currency-related with the pound seeing lot of volatility. In June, 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.

Outlook

However, several analysts expect that the effects of the Brexit vote and the fall in pound will 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 2.2% forecast earlier in March. It has also lowered its growth forecast for 2018 and expects the economy to grow 1.7% instead of 2.1%.

Optimism among UK companies is lowest in the last four years as per the latest Markit Business Outlook survey. On the other hand, inflationary pressure is also expected to hit harder next year, reflecting a weakness in pound. These factors could lead to a sharp decline in consumer spending growth.

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 UK 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 (read: UK Votes for Brexit: ETFs Winners & Losers).

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 - Free Report)
 
This product tracks the MSCI United Kingdom Index. In total, it holds 112 securities with more than 40% of its assets allocated to the top 10 holdings. EWU is popular and actively traded with an AUM of $1.9 billion and average daily volume of more than 2.3 million shares. From a sector look, financials takes the top spot at 21.3% while consumer staples, energy, consumer discretionary, and health care round off the top five. The ETF charges 49 bps in annual fees. It has a Zacks ETF Rank #3 or ‘Hold’ rating with a Medium risk outlook. The fund has gained 5.3% in the last three months (as of November 28, 2016).

First Trust United Kingdom AlphaDEX ETF (FKU - Free Report)
 
This fund provides exposure to 76 firms by tracking the NASDAQ AlphaDEX United Kingdom Index. The fund has amassed $28.7 million in its asset base while it has an average daily volume of more than 56,000 shares. None of the firms accounts for more than 3.1% of the total assets.
 
Sector-wise, consumer discretionary takes the top spot at about 26.1% share while, real estate, industrials and information technology also have double-digit allocation. FKU charges a fee of 80 bps annually and has a Zacks ETF Rank #3 with a Medium risk outlook. The fund is down 8.3% in the last three months (read: Will the Surge in Currency Hedged UK ETFs Continue?).
 
iShares MSCI United Kingdom Small-Cap (EWUS - Free Report)
 
With an AUM of $22.2 million, this product tracks the MSCI United Kingdom Small Cap Index. In total, it has a diversified portfolio of 240 securities with none of the components holding more than 2% weight. From a sector look, industrials takes the top spot at 20.7% while consumer discretionary, financials, information technology and real estate round off the top five. The ETF has an expense ratio of 0.59% and trades in light volume of around 20,000 shares a day. The fund lost 7.1% in the last three months and has a Zacks ETF Rank #3 with a Medium risk outlook.

Guggenheim CurrencyShares British Pound Sterling Trust (FXB - Free Report)

The fund tracks the price of the British Pound Sterling. With the UK currency in a tight spot, the fund lost 5.6% in the last 90 days. With an AUM of $322.1 million, it is the most popular pound ETF. The ETF has an expense ratio of 0.40% and trades in volume of around 148,000 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

With AUM of $4.3 million, the fund provides exposure to the British pound/U.S. dollar exchange rate. The fund lost 6% in the last three months. The ETF has an expense ratio of 0.40% and trades in light volume of less than 4,000 shares a day and has a Zacks ETF Rank #3 with a High risk outlook (see: all Currency ETFs here).

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