U.K. Government Bonds to Receive Boost as BOE Reinvests QE Cash

  • BOE plans to use QE proceeds to buy more gilts this week
  • Longer maturities to benefit as shorter bonds clouded by Fed

U.K. government bonds’ top performance among Group-of-Seven peers this month may continue as the Bank of England reinvests maturing sovereign debt bought under its quantitative-easing program.

The central bank is holding the first of its so-called reverse auctions on Monday to re-invest 1.4 billion pounds ($2.14 billion) of redemptions in bonds due within three to seven years. The same process will repeat for those with maturities longer than 15 years on Tuesday and for the seven-to-15 year group on Wednesday. The purchases will take place on Mondays through Wednesdays over the next five weeks, according to Barclays Plc, one of 21 gilt primary dealers.

Longer-dated gilts are more likely to benefit from the re-investment flows than shorter-dated ones, which are at risk of a selloff amid the possibility of a hawkish signal by the Federal Reserve next week, according to Richard Kelly, head of global strategy at Toronto Dominion Bank, also a gilt primary dealer. U.S. policy makers will set interest rates on Sept. 17, and futures traders see the odds of an increase at 32 percent.

“The Fed sets up some significant risks around the short end of gilts,” said London-based Kelly. “We think the Fed holds off until next year to hike. But if they come out fairly hawkish next week in terms of the hike or language on timing, I think the market will see the two- and three-year gilts as very vulnerable.”

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The BOE has held its benchmark interest rate at 0.5 percent since March 2009, when it also began its QE program in an attempt to shore up the British economy amid the global credit crisis. The purchases are intended to keep the total amount of gilt holdings at 375 billion pounds. Officials have ruled out any unwinding until the key rate has risen materially.

The yield on five-year gilts was little changed at 1.27 percent as of 12:21 p.m. London time, after falling 12 basis points last week. The price of the 2 percent security due July 2020 was at 103.44 percent of face value. The 10-year gilt yield was little changed at 1.82 percent.

Gilts returned 1.5 percent in the past week through to Sept. 4, according to Bloomberg World Bond Indexes. U.S. Treasuries earned 0.3 percent while German securities returned 0.6 percent during the same period. Japanese government debt earned 0.2 percent.