U.K. Hikes Interest Rates: ETFs In Focus

Economic Scenario

Bank of England (BOE) hiked its benchmark interest rate by 25 basis points to 0.5%, reversing the August rate hike immediately after Brexit, as widely expected by economists. Despite relatively weak growth and uncertain terms of Britain’s deal with the EU on Brexit, the central bank hiked the interest rate for the first time since July 2007 in order to curb inflation.

U.K. consumer price index increased 3.0% year over year in September compared with 2.9% in August, per data released by the Office for National Statistics. Wages in the United Kingdom are not increasing as fast as inflation. It grew 2.1% in the three months to August, as a result of which consumers are witnessing a rise in costs in real terms (read: U.K. Inflation on the Rise: ETFs in Focus).

The British economy has been suffering since the Brexit referendum as a falling sterling has made imports costlier and added to consumers’ woes. The recent increase in inflation therefore created pressure on the BOE to hike rates.

What Lies Ahead?

In the third quarter, U.K.’s GDP grew 0.4% sequentially and 1.5% year over year. Although this reflects a slight increase from 0.3% sequential growth in the second quarter, the rate of improvement has been dismal since Brexit and is lagging the overall Eurozone.

Moreover, a rate hike will impact innumerable mortgage holders and might harm economic activity, thereby leading to a further decline in the GDP. Per a Guardian article, citing accountancy firm Moore Stephens data, households are expected to incur an additional 1.8 billion pounds on variable rate mortgage payments in the first year itself. Adding to the agony, households are expected to incur an additional 465 million pounds on credit card payments, overdrafts, personal loans and car loans.

However, savers will witness a slight increase in their returns. Moreover, pensioners are expected to benefit from the decision as well, as they will see their interest income on savings getting a modest boost.

Let us now discuss a few ETFs focused on providing exposure to the U.K. (see all European Equity ETFs here).

iShares MSCI United Kingdom ETF EWU

For those looking to gain exposure to the British markets in particular, this fund is one of the most popular pure play options. This fund does not hedge currency fluctuations and maintains exposure to the pound.

The fund has AUM of $2.6 billion and charges 48 basis points in fees per year. Financials, Consumer Staples and Energy are the top three sectors of this fund with 21.7%, 17.8% and 15.5% allocation, respectively (as of Nov 1, 2017). The top three holdings are HSBC Holdings (LON:HSBA) PLC, British American Tobacco (LON:BATS) PLC and Royal Dutch Shell (LON:RDSa) PLC, with 7.5%, 5.8% and 5.4% allocation, respectively (as of Nov 1, 2017). It has returned 13.5% year to date and 16.1% in a year (as of Nov 2, 2017). EWU has a Zacks ETF Rank #3 (Hold) with a Medium risk outlook.

First Trust United Kingdom AlphaDEX Fund FKU

This fund seeks to provide exposure to U.K. equities while involving a quant screening methodology to identify stocks with great potential of capital appreciation.

The fund has AUM of $25.3 million and charges 80 basis points in fees per year. Consumer Discretionary, Industrials and Financials are the top three sectors of this fund with 23.2%, 21.5% and 16.2% allocation, respectively (as of Nov 1, 2017). The top three holdings for the fund are Anglo American (LON:AAL) Plc, NMC Health Plc and Bellway Plc with 3.0%, 2.8% and 2.6% allocation, respectively (as of Nov 1, 2017). It has returned 20.3% year to date and 14.6% in a year (as of Nov 2, 2017). FKU has a Zacks ETF Rank #3 with a Medium risk outlook.

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