Brexit Clash Could Send U.K. ETF Into Bear Market

London-listed stocks tilted lower last week as Brexit uncertainty dominated headlines

by Bernie Schaeffer

Published on Nov 20, 2018 at 8:08 AM
Updated on Nov 20, 2018 at 8:08 AM

By the end of last week, the state of Brexit negotiations was (not unfairly) summed up by one Vox article as "a true and complete omnishambles." While U.K. Prime Minister Theresa May successfully hammered out the terms of a "soft Brexit" with her European Union (EU) counterparts, it came at a great cost for May -- in the form of high-level cabinet resignations and at least one no-confidence letter from a member of parliament. With many now calling for May to step down, and the likelihood of a second Brexit referendum on the rise, investors in London were fairly wracked with uncertainty.

The heightened volatility was expressed in the trading action in both the British currency and its stock market. Thursday marked the pound's worst session in two years, while the FTSE 100 tagged a three-week low on Friday. Meanwhile, a popular exchange-traded fund (ETF) that tracks British stocks -- the iShares MSCI United Kingdom ETF (EWU) -- still has plenty of room to retreat before revisiting its 2016-era Brexit panic lows.

EWU was already sliding lower on the charts ahead of last week's fresh round of Brexit drama, having broken below support around $34.20 in early August. And prior to that, the ETF had been trundling lower under the weight of a trio of daily moving averages, as displayed on the accompanying chart; not since June has EWU managed to close a session above all three of its 30-day, 50-day, and 80-day trendlines, which have swatted back every rally attempt in the meantime (with the near-exception of one finish flat with the 80-day on Sept. 27).

As the fundamental and technical backdrop for U.K. stocks grows increasingly foggy, put open interest on the equity fund has climbed to 12,897 contracts, per Trade-Alert -- in the unequivocally bearish 91st percentile of its annual range, but still about 41% below the 52-week high of 21,811 contracts set back in July. So while speculative players have availed themselves of a rather generous portion of bearish bets (or perhaps, of hedges on long equity positions), there would seem to be more-than-ample opportunity for this hand-wringing contingent to continue expanding before it reaches climactic proportions.

In the meantime, EWU is dancing around some key technical levels on the charts, with the stark possibility of a breakdown to its 2016 lows still in play. The ETF settled Friday at $31.71, just below the $32.05 level that corresponds with a 10% year-to-date loss (and could reinforce resistance from the nearby 30-day and 50-day moving averages). And underfoot is the $31.52 price point that marks a 23.6% Fibonacci retracement of EWU's two-year swan dive from its June 2014 high at $44.22 to its June 27, 2016 Brexit vote low of $27.60. This region has so far played the role of tenuous support -- but the increasingly loud drumbeat calling for May's ouster, the prospect of a "hard Brexit," or even the turmoil associated with a second referendum could easily trigger an EWU drop below this wobbly foothold, most likely down to the $30.44 area that would mark a 20% decline from its Jan. 25 highs, and "official" bear market territory for the British stock tracker.

ewu daily price chart

Subscribers to Bernie Schaeffer's Chart of the Week received this commentary on Sunday, November 18.

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