After a little more than a year since the historic Brexit vote, United Kingdom exchange traded funds brushed off market concerns and enjoyed a strong year of growth.
The iShares MSCI United Kingdom ETF (NYSEArca:EWU), the largest U.K. ETF trading in the U.S., increased 15.3% and iShares MSCI United Kingdom Small-Cap ETF (NYSEArca:EWUS) gained 19.2% over the past year.
Moreover, since June 24, EWU attracted $364.9 million in net inflows, which suggested that investors did not take Brexit as a major impediment to the U.K.’s economy or market outlook.
Nevertheless, the recent U.K. election results have created more uncertainty over the path ahead for Brexit negotiations – while British citizens have made their stance clear with the Brexit vote, the government is still tasked with the onerous task of negotiating its eventual break from the European Union.
“The U.K. election resulted in a hung parliament, an outcome that creates uncertainty about the path ahead for Brexit negotiations. Although this is a mild short-term negative for U.K. domestic assets due to the uncertainty, we see a bigger risk of an economically disruptive ‘no deal’ Brexit – one that leaves the United Kingdom without existing trade or security agreements by the hard March 30, 2019 deadline,” BlackRock strategists said in a research note.
Many continue to believe that weakness in the British pound sterling may continue to have a lesser influence on U.K. large-cap companies, which have a greater international footprint, while weighing on U.K. small-caps, which may make up more business in domestic markets. Looking ahead, BlackRock anticipates the divergence to become more pronounced, with U.K. large-caps outperforming small-caps.
“Recent returns aside, the investment rationale behind the expectation of a U.K. large-cap and small-cap divergence still holds and further sterling weakness could help drive the performance of large cap over small cap,” according to BlackRock.
Related: 10 ETFs Hit the Hardes in ‘Brexit’ Fallout
Investors interested in U.K. market exposure have largely turned to EWU, which tries to reflect the performance of the MSCI United Kingdom Index, a benchmark comprised of large- and mid-sized companies in the U.K. and provides access to 85% of the U.K. stock market. When used along with the small-cap focused EWUS, investors would gain exposure to the whole market.
The First Trust United Kingdom AlphaDEX Fund (NYSEArca:FKU) provides a smart-beta play on U.K. stocks. Components are selected on growth factors including 3-, 6- and 12- month price appreciation, sales to price and one year sales growth, and separately on value factors including book value to price, cash flow to price and return on assets.
The SPDR MSCI United Kingdom StrategicFactors ETF (NYSEArca:QGBR) is another smart beta option. QGBR’s underlying components are selected based on a combination of three factors – value, quality, and low volatility.
Lastly, if investors are worried about foreign exchange risks, the currency hedged iShares Currency Hedged MSCI United Kingdom ETF (NYSEArca:HEWU), WisdomTree United Kingdom Hedged Equity Fund (NasdaqGM:DXPS) and Deutsche X-Trackers MSCI United Kingdom Hedged Equity ETF (NYSEArca:DBUK) outperform non-hedged U.K. exposure during periods of sterling weakness.
For more news and strategy on currency-hedged ETFs, visit our Currency-Hedged category.