U.K. Inflation Seen Rising From Slumber in Bond-Market Measure

  • Ten-year break-even rate climbs to highest since September
  • DMO auctions 700 million pounds of linkers due in 2058

Inflation in the U.K. may be bottoming out, if the bond market is any indication.

A gauge of Britain’s inflation outlook derived from bonds rose to a seven-week high on Tuesday after the nation auctioned index-linked securities due in 43 years’ time. The U.K. 10-year break-even rate, a measure of the outlook for retail-price inflation derived from the yield difference between conventional gilts and so-called linkers, increased for a fifth day to 2.53 percentage points, the highest since Sept. 18 based on closing prices. The five-year equivalent climbed to the highest in about one month.

While the Bank of England reduced its inflation outlook for 2016 and damped speculation about an early boost to interest rates last week, U.K. bonds fell as the U.S.’s best employment report this year increased speculation the Federal Reserve will increase rates next month. U.K. retail-price inflation slowed to 0.8 percent in September, the lowest since 2009, while the 10-year break-even rate fell to as low 2.36 percentage points in October, the least since March.

The break-even rates have moved with the “selloff in underlying bonds,” said John Wraith, the head of U.K. rates strategy at UBS Group AG in London. That is being driven in part by growing expectations the Fed is getting closer to raising interest rates and “that better backdrop is what’s pushing yields higher. So all else being equal, this means that inflation starts to rise as well,” he said.

Linkers Auction

The Debt Management Office sold 700 million pounds ($1.1 billion) of inflation-linked bonds due March 2058 with a yield of minus 0.756 percent. Britain will auction 1.5 billion pounds of conventional bonds maturing in September 2039 on Thursday.

“There was reasonably good demand” for the linker sale, said Simon Peck, a rates strategist at Royal Bank of Scotland Group Plc in London. “The market is relatively comfortable with the supply” and the “auction bodes well” for the DMO’s next long-dated offering, he said.

There’s at least 11 months between when markets anticipate a Fed rate increase and a move from the BOE. Forward contracts based on the sterling overnight index average, or Sonia, indicate that a full quarter-point boost to the U.K.’s main rate won’t come until November 2016.

The U.K.’s benchmark 10-year gilt was little changed, with the yield at 2.03 percent as of 4:09 p.m. London time Tuesday. It reached 2.09 percent on Monday, the highest since July 21. The price of the 2 percent bond due in September 2025 was 99.755 percent of face value.

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