Next month marks the three-year anniversary of the original Brexit referendum, in which the United Kingdom narrowly voted to leave the European Union.
Ever since, a fog of uncertainty has hung over the U.K.’s financial future, with asset managers and financial institutions shifting their operations away from London even as lawmakers continue to debate the terms of Britain’s exit.
How Euro Exposure Varies
No compromise has yet been reached, and recent European parliamentary elections, combined with pro-Brexit Prime Minister Theresa May’s departure, suggest the U.K. is no closer to inking a deal.
Unsurprisingly, the U.K.’s stock market has struggled to keep pace with the rest of Europe. Over the past three years, the iShares MSCI United Kingdom ETF (EWU), which covers 85% of the U.K. market by market cap, has risen 4%, while the iShares MSCI Eurozone ETF (EZU), which covers only countries that use the euro, has risen 7%:
Source: StockCharts.com. Data as of May 29, 2019.
Given this uncertainty, investors might be considering reducing their exposure to U.K. stocks, by using eurozone-focused ETFs instead of general European funds.
But some eurozone ETFs are outperforming better than others—for one key reason: currency hedging.
2 Kinds Of Eurozone ETFs
Of the 48 developed Europe ETFs, 11 are purely eurozone funds, with no exposure to the U.K. (or, for that matter, to Switzerland or Sweden, which also do not use the euro).
Vanilla, broad-based EZU is the largest, with $6.7 billion in assets under management. Combined, the 11 eurozone ETFs hold $13.6 billion in assets:
Source: ETF.com. Data as of May 28, 2019.
Notably, five of these ETFs implement a currency hedge to the euro, while the other six do not. Currency hedged ETFs use short forward contracts to hedge out exposure to a foreign currency; in this case, the euro.
