U.K. Rate-Cut Odds Approach 50% Showing Doubt Over Carney's View

DAVOS WEF 2014

Mark Carney.

Photographer: Jason Alden/Bloomberg
  • Outlook reflected in Britain's world-beating bond market
  • Sterling down versus most peers in 2016 on darkening prospects

Bank of England Governor Mark Carney’s insistence that the next move in U.K. interest rates will likely be up looks increasingly doubtful to investors, judging from money markets that are signaling he may even be forced to reduce borrowing costs this year.

As global turmoil in stocks and bonds persists, forward contracts based on the sterling overnight index average, or Sonia, project the chances of a 25-basis-point cut in the benchmark rate by the November meeting were almost 50 percent, with an increase not expected until after 2018.

As recently as the turn of the year, a boost in November was fully priced in. That signaled the BOE might have been among the earliest of the world’s major central banks to follow the Federal Reserve’s December rate increase, which was its first since 2006.

The turnaround has been reflected in U.K. government bonds posting the highest returns in the developed world during 2016, while the pound slumped against all except two of its Group-of-10 peers. In addition to rising investor speculation that the global market turmoil will prevent the BOE from raising rates soon, the currency has also been restrained by the possibility a referendum later this year on Britain’s membership of the European Union will lead to the country exiting the world’s-largest trading bloc.

Brexit Threat

“On the top of the lingering global risk-aversion, there are some U.K.-specific risks like the upcoming EU referendum and the related threat of Brexit,” said Valentin Marinov, head of G-10 currency strategist at Credit Agricole SA’s corporate and investment-banking unit in London. “Given the importance of the U.K.’s financial sector as a driver of growth, the latest selloff in the global banking stocks is not helping the pound either.”

Benchmark 10-year gilt yields increased one basis point, or 0.01 percentage point, to 1.42 percent as of 2:18 p.m. London time, after touching 1.38 percent on Tuesday, the lowest since February 2015. The 2 percent security due September 2025 fell 0.105, or 1.05 pounds per 1,000-pound ($1,450) face amount, to 105.14.

The pound added 0.1 percent to $1.4485, and was 0.6 percent stronger at 77.54 pence per euro, set for its first gain since Feb. 1.

Sterling rose even as a report Wednesday showed industrial production plunged more than economists forecast in December, capping the output’s worst quarterly performance in almost three years. The pound’s advance came as a semblance of calm returned to financial markets and oil rose in London for the first time in five days.

“It feels that a lot of negatives are in the price” of the pound, Marinov said. “It would take further deterioration in the U.K. data or an increase in the support of Brexit in the polls to see the currency selling off further.”

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