U.K. ETF Looks Even Soggier

Includes: EWN, EWU, FXB
by: Don Dion

The inflation rate in the United Kingdom for the month of December jumped the most since records began in 1997, further dampening the outlook of iShares MSCI United Kingdom Index Fund (NYSEARCA:EWU).

This is because an increasing rate of inflation may force the UK’s central bank to raise interest rates in the near future. However, in statements yesterday, the Bank of England’s governor said that the inflation was only a temporary increase.

The government targets a 2% inflation rate and the figure for December was 2.9%, year-over-year, and 1% point higher than the year-over-year figure for November.

If expectations of an interest rate hike continue, EWU will not do well although the value of the pound should increase. This would make CurrencyShares British Pound Sterling Trust (NYSEARCA:FXB) a better choice.

If the central bank’s governor is correct though, and inflation subsides, the UK economy can expect to enjoy further low rates as the governor also indicated he is not ready to reel in emergency stimulus measures.

It also must be taken into consideration that policy of the UK government towards the economy may shift after a general election, which must be held on or before June 3rd. Such an election may change which party is in control of the government and the economic policies of the country going forward.

However, until then, investors will have to choose whether to take the recent inflation numbers seriously and consider FXB or take the governor of the Bank of England’s comments at face value and consider EWU.

I would suggest though that ETF investors look elsewhere for international investments as I do not expect either EWU or FXB to take off significantly in either scenario. Such investments also bring with them an amount of risk because of the potential government policy changes in the near term. For the time being, the reward to investing in the UK is not greater than the risk and uncertainty.

With the elimination of Germany last week from my list of remaining bright spots in Europe, that just leaves ETF investors interested in the continent to consider iShares Netherlands Investable Market Index Fund (NYSEARCA:EWN). For investors who insist on gaining exposure to European markets, this is currently the best way to do so.

Disclosure: No positions