Best & Worst ETFs After 'Brexit' Shocker

Investors are taking no chances after the U.K. voted to leave the EU, as they dump risky assets in favor of safe havens.

sumit
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Senior ETF Analyst
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Reviewed by: Sumit Roy
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Edited by: Sumit Roy

It finally happened. After a long, contentious campaign, voters in the United Kingdom decided to leave the European Union once and for all. "Brexit," as it's popularly known, is no longer a risk for the markets, but a reality.

Ahead of the referendum, the average of polls from Pollster showed the "remain" camp having a half-a-percent lead over the "leave" camp―45.8% to 45.3%. While indicating a close race, bullish investors were hopeful that the polls were correct in predicting that the U.K. would stay in the EU.

Stocks rallied broadly on Thursday, while safe-haven government bonds and gold sold off.

With the race so tight leading into the referendum, perhaps investors should have seen it coming. The final tally was close―just as the polls predicted―but it was the “Leave” camp that edged out the “Remain” camp, with 52% of voters in favor of leaving and 48% in favor of staying.

Today the markets reacted violently to the news.

Long Exit Process To Begin

The vote in favor of Brexit now begins a messy divorce process between the U.K. and the EU, which may last two years. In addition to untangling itself from the EU, the U.K. must come up with new trade deals and relationships with the union.

A report from the International Monetary Fund said that "ratification of a new deal would require unanimous consent of all EU member governments, making agreements subject to considerable political risks."

Additionally, "these processes and their eventual outcomes could well remain unresolved for years, weighing heavily on investment and economic sentiment during the interim and depressing output," wrote the IMF.

Best & Worst Case Scenarios

In the most optimistic scenario, the U.K. takes a modest short-term economic hit, and most of the damage is contained within the country.

On the other hand, more pessimistic forecasts call for much deeper economic pain, including a housing crash, significant reductions in trade, investment and a widespread recession.

Some analysts take it a step further and predict that the Brexit vote could embolden nationalist parties in other European countries, leading to more exits from the EU, and an eventual catastrophic breakup of the union.

Europe Stocks Walloped

Unsure of which post-Brexit scenario plays out, today investors took no chances, as they dumped their risky assets and loaded up on safe havens.

It comes as no surprise that the biggest losers today were ETFs tied to Europe. The Vanguard FTSE Europe ETF (VGK | A-97) was down 11.3%, while the WisdomTree Europe Hedged Equity Fund (HEDJ | B-47) was down 8.8%.

At the same time, the largest fund tied specifically to the U.K., the iShares MSCI United Kingdom ETF (EWU | A-91), dropped 12% on the session.

Interestingly, excluding currency fluctuations, U.K. stocks notably outperformed their European counterparts. The iShares Currency Hedged MSCI United Kingdom ETF (HEWU | F-40) was only down 3.7%.

HEWU hedges its currency exposure, helping it avoid the affects of today's wild swings in the foreign exchange markets. The British pound was down 8.1% against the U.S. dollar after earlier reaching a 31-year low of 1.32 to the greenback.

The euro was down a more modest 2.4% against the dollar to 1.11, after earlier reaching its lowest level since March.

 

Panic Spreads To The US

Meanwhile, the Brexit panic spread to U.S. stocks as well.

Today the SPDR S&P 500 ETF (SPY | A-97) closed down 3.6%. At one point last night, S&P 500 futures were down as much as 5.1%, so from that perspective, U.S. stocks recovered modestly from their worst levels.

A large and vocal number of analysts are signaling that any weakness in the U.S. market based on Brexit is a buying opportunity.

Even after today's decline, SPY is up 0.7% on a year-to-date basis (including dividends), outperforming its international peers. That's because the U.S. is largely seen as economically insulated from the tumult in Europe―at least for now.

If the economic problems in Europe deepen and a significant global slowdown or recession develops, the U.S. would not be immune from that.

Every sector within the S&P 500 was down today, with the exception of utilities. The Utilities Select Sector SPDR Fund (XLU | A-89) rose by 0.2%.

Treasury Yields Near Record Lows

In contrast to most stocks—which were beaten down today—are the safe havens. These are the usual assets that tend to rise when panic strikes: Treasurys and gold.

The U.S. 10-year bond yield reached as low as 1.4% today before recovering to last trade at 1.56% (interest rates and bond prices move inversely). The 1.4% level was just a hair above the all-time low rate of 1.38% from 2012.

The iShares 7-10 Year Treasury Bond ETF (IEF | A-55), which tracks bonds in the middle of the yield curve, traded up by 1.4% , to its highest level ever.

The iShares 20+ Year Treasury Bond ETF (TLT | A-83) and the PIMCO 25+ Year Zero Coupon US Treasury Index ETF (ZROZ | C-57), which track Treasurys with longer maturities, gained 2.7% and 3.4%, respectively.

Gold Has Largest Gain Since 2008

Another safe haven exploding to the upside today was gold. The yellow metal spiked as much as 8.1%, its largest daily increase since the financial crisis in 2008.

Prices were last trading up by 4.7% to $1,315/oz. after briefly reaching more than $1,359, the highest level since March 2014.

ETFs that track physical gold, such as the SPDR Gold Trust (GLD | A-100), followed the metal tick-for-tick to the upside. The fund is now up 24.2% for the year.

Contact Sumit Roy at [email protected].

 

Sumit Roy is the senior ETF analyst for etf.com, where he has worked for 13 years. He creates a variety of content for the platform, including news articles, analysis pieces, videos and podcasts.

Before joining etf.com, Sumit was the managing editor and commodities analyst for Hard Assets Investor. In those roles, he was responsible for most of the operations of HAI, a website dedicated to education about commodities investing.

Though he still closely follows the commodities beat, Sumit covers a much broader assortment of topics for etf.com, with a particular focus on stock and bond exchange-traded funds.

He is the host of etf.com’s Talk ETFs, a popular video series that features weekly interviews with thought leaders in the ETF industry. Sumit is also co-host of Exchange Traded Fridays, etf.com’s weekly podcast series.

He lives in the San Francisco Bay Area, where he enjoys climbing the city’s steep hills, playing chess and snowboarding in Lake Tahoe.