Photographer: Jin Lee/Bloomberg

Traders Holding Fast on 2017 BOE Rate Increase After Fed's Move

  • Sonia forwards still show BOE boost priced in for Feb. 2017
  • Fed raises borrowing costs for first time since 2006

The Federal Reserve’s first interest-rate increase in almost a decade has barely budged investors’ outlook for the Bank of England to follow suit.

Traders are fully pricing in a rate increase of 25 basis points from the BOE in February 2017, according to forward contracts based on the sterling overnight index average, or Sonia. That’s unchanged from before the Fed’s decision on Wednesday to increase U.S. rates.

The predicted 14-month gap between the two central banks is far higher than the historical norm. In the past 20 years, the BOE has tended to follow its U.S. counterpart with a lag of about three months, according to economists at Deutsche Bank AG. The lack of a pickup in speculation about a U.K. rate increase was reflected in the nation’s government bonds, which rose Thursday.

“With the U.K. it’s a question of wait and see, and it’s still highly debatable as to when they’re going to make that move,” said Orlando Green, a fixed-income strategist at Credit Agricole SA’s corporate and investment-banking unit in London. Gilts “will be supported by the BOE stance, which is still not one that’s looking toward a hike anytime soon. They’ll remain supported for the time being.”

The pound tumbled 0.9 percent to $1.4869 as of 4:20 p.m. in London, its biggest decline in six weeks, and dropped as low as $1.4865, its weakest level since April. Sterling was little changed at 72.74 pence per euro, staying close to Wednesday’s almost two-month low.

Inflation Effect

Britain’s benchmark rate has been at a record-low 0.5 percent since March 2009. While as recently as 2014 markets were forecasting the BOE would raise before the Fed, U.K. policy makers have signaled they’re in no rush to follow their U.S. counterparts.

BOE Governor Mark Carney said this week that the conditions for the U.K. to boost rates still aren’t in place. The nation’s annual inflation rate hasn’t risen above 0.1 percent since January, far from the central bank’s 2 percent target.

Minouche Shafik, the BOE’s deputy governor for markets and banking, said this week that rates probably will rise more quickly than the market currently implies. But she also said she’ll “proceed with caution” when making decisions on borrowing costs.

As the predicted paths of the two countries’ central banks diverge, the yield spread on short-dated debt is also widening. U.S. two-year notes yield 38 basis points over similar-maturity U.K. gilts, the most since 2006 based on closing prices.

Gilts stayed higher Thursday even after an official report showed British retail sales rose more than economists predicted last month. U.K. two-year note yields dropped three basis points, or 0.03 percentage point, to 0.60 percent. The 1 percent security due in September 2017 gained 0.05, or 50 pence per 1,000-pound face amount, to 100.68.

“With the Fed having now commenced liftoff, the debate as to whether the Bank of England should also begin raising rates is likely to come into sharper focus,” Kevin O’Nolan, a money manager at Fidelity Solutions in London, wrote in a note on Wednesday. “The Bank is unlikely to act in the immediate future.”

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