The explosion in gas prices shakes the UK bond market

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The Bank of England can be seen as people walk through the financial district of the City of London, London, Britain on June 11, 2021. REUTERS / Henry Nicholls

LONDON, Oct. 6 (Reuters) – The UK government bond market shows signs of strain amid the country’s energy crisis, with headlines on gas prices causing massive sell-offs this week – a new development that indicates growing unease with inflation expectations.

There has been disarray in Britain in recent days as a truck driver deficit has left gas pumps running dry across the country and a surge in wholesale natural gas prices in Europe has pushed energy companies to bankruptcy.

Just as Prime Minister Boris Johnson has denied the country has fallen into chaos, investors have chosen the £ 2 trillion ($ 2.7 trillion) gilts market for some of the biggest sales among the major government bonds.

The 10-year gilt yield, which moves inversely to price, hit its highest level since May 2019 at 1.152% on Wednesday as the UK wholesale gas contract for overnight delivery crossed 3 pounds for the first time / therm.

Wholesale gas prices in the UK

Until this week, gilts had typically moved in response to economic data and the Bank of England’s comments on the economic outlook.

That changed on Tuesday, when a Bloomberg headline on the spike in UK wholesale gas prices at 1:45 p.m. GMT caused a quick sell-off.

The 10-year yield jumped more than 2 basis points over a 10-minute period, equivalent to the movement that immediately followed the BoE’s policy statement last month.

Another headline on gas prices, this time from Reuters at 2:35 p.m. GMT, prompted more sales.

Peter Chatwell, head of multi-asset strategy at Mizuho International, said there had been “unease” among some ill-positioned golden investors over the prospect of a BoE interest rate hike this year .

“It all depends on the price revision that takes place at the very beginning of the curve – so the possibility of a rise in just under a month,” Chatwell said.

“It is the difficult thing for the market and that is why it is linked to the very short term evolution of energy prices.”

Recent moves by gilts are expected to catch the attention of BoE officials, who are trying to assess the economic impact of widespread supply chain disruption, labor shortages and a market energy failing.

Some policymakers fear that investors and consumers may lose confidence in the central bank’s ability to contain inflation, raising the prospect of rising interest rates even as the economy shows clear signs of falling. slow-down.

The UK inflation-indexed gilt market suggests that retail price inflation, an outdated metric but still used by utility companies as a benchmark for bills, will hit around 7% by April 2022 – a level last seen in the early 1990s.

Deutsche Bank investment strategist Jim Reid said on Tuesday that the 10 basis point hike in UK 10-year equilibrium rates – another reflection of long-term inflation expectations in the market – was ” unbelievable “.

On Wednesday, financial markets were banking on a roughly 90% chance of a 15 basis point hike in interest rates by the BoE by the end of the year.

BOE RETURN?

The recent sharp swings in gilt prices should be of interest to BoE officials who are monitoring the functioning of the gilt market ahead of the completion of its £ 875 billion bond buying program, slated for year-end. .

The government will also monitor the gilts market ahead of a public finances update on October 27, after Britain borrowed more than £ 320 billion in the last fiscal year to pay for its response to the COVID-19 pandemic .

The lack of clarity on the outlook suggests that a return to calm in the market may be a little distant.

“The inflation that we are seeing right now is obviously real, but no one really knows how transient it is, how long these bottlenecks will last, how long commodity prices will rise, etc.” said Peter Schaffrik, RBC Global Macro Strategist. noted.

Mizuho’s Chatwell said it was possible the BoE might try in the coming weeks to push the market away from its aggressive pricing of rate hikes if it felt it had gone too far.

“Perhaps this is where less hawkish rhetoric, to bring more clarity, could materialize. They should deliver it effectively no later than two weeks before this November 4 meeting,” Chatwell said.

($ 1 = 0.7380 pounds)

Reporting by Andy Bruce; Editing by Toby Chopra

Our Standards: Thomson Reuters Trust Principles.


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