The selloff that made gilts the worst performing developed-market bonds this year is set to end as the Bank of England keeps interest rates at a record low until the end of 2015, Pacific Investment Management Co. said.
Benchmark 10-year yields reached the highest level in more than two years in September as data showing the U.K. recovery was strengthening undermined demand for the relative safety of government debt. Central bank governor Mark Carney said last week that while news on the British economy is “positive,” policy makers won’t risk the premature withdrawal of stimulus.
“Much of the rise in bond yields is already behind us,” Mike Amey, a money manager at Pimco in London, wrote in a client note obtained by Bloomberg News. “With the primary lending rate likely to be on hold at 0.5 percent for the next two years, it will constrain how high intermediate yields can go. Our preference lies in short and intermediate gilts.”
Ten-year gilt yields fell one basis point, or 0.01 percentage point, to 2.90 percent last week. They reached 3.05 percent on Sept. 11, the highest since July 2011.
To foster the recovery, the BOE has said it won’t consider raising its key interest rate from 0.5 percent at least until unemployment, now at 7.6 percent, drops to 7 percent.
Reports last week showed construction output and industrial production increased in October, adding to evidence that the economy maintained momentum at the start of the fourth quarter.
“With the recovery in its very early stages and the level of output still below its 2008 peak, we hope, and expect, that this recovery will be allowed to continue,” Amey wrote. “To tighten monetary policy too early creates many, many more risks than risking policy that is too loose for a little too long. We believe policy makers are well aware of this and have no desire to preside over a failed U.K. recovery.”
Cooling consumer-price growth means the central bank will leave its key rate unchanged “at least through the end of 2015,” Amey wrote.
The appeal of inflation-protected gilts, known as linkers, is much reduced, he wrote. Investors should sell long-dated U.K. index-linked gilts and buy equivalent U.S. Treasury Inflation-Protected Securities, Amey recommended.