Gilt yields plunge after Bank of England steps in to buy at ‘whatever scale is necessary’

UK gilt yields fell back from their highest in 14 years after the Bank of England said it would buy bonds at “whatever scale is necessary” to restore orderly market conditions.

The 10-year benchmark gilt yield TMBMKGB-10Y,
4.123%,
which moves in the opposite direction to prices, fell 49 basis points to 4.03%, having at one point dropped below 4%.

Earlier on Wednesday the yield had risen to 4.6%, up more than 120 basis points in just four trading days as investors dumped government bonds in response to what they deemed a dangerously profligate budget by new Chancellor Kwasi Kwarteng.

Kwarteng’s proposal for £45 billion of debt-funded tax cuts at a time when inflation was running at a near 40-year high of 9.9% was lambasted by the International Monetary Fund.

After additional selling on Wednesday, which took the 30-year gilt yield TMBMKGB-30Y,
4.015%
above 5% for the first time in decades, the Bank of England stepped in to calm the markets. The 30-year yield skidded 108 basis points to 3.91%, taking it below the level before Kwarteng announced the tax cuts.

“The Bank is monitoring developments in financial markets very closely in light of the significant repricing of UK and global financial assets,” said the BoE in a statement.

“This repricing has become more significant in the past day – and it is particularly affecting long-dated UK government debt….In line with its financial stability objective, the Bank of England stands ready to restore market functioning and reduce any risks from contagion to credit conditions for UK households and businesses,” it added.

Reports emerged on Wednesday that recent sharp declines in gilts and the pound had left some UK pension funds facing margin calls of as much as £100 million ($107 million) each. Also, a number of UK banks had suspended mortgage offers after the bond market volatility left them struggling to price home loans.

The BoE said it would buy long-dated UK government bonds to restore order and “the purchases will be carried out on whatever scale is necessary to effect this outcome.” It was suspending its planned gilt sales under its quantitative tightening program.

“The decision to intervene in the gilt market reveals that the BoE does not intend to increase Bank Rate all the way to the 6% level currently priced-in by markets,” said Samuel Tombs, chief UK economist at Pantheon Macroeconomics.

“Short rates at that level would imply that many households and businesses simply would not be able to keep up their monthly loan repayments, and pension funds could not meet their obligations, threatening financial stability,” he added.

The yield on the 2-year Treasury TMBMKGB-02Y,
4.349%
tumbled 34 basis points to 4.27%, even though the central bank isn’t buying short-dated securities.

The Treasury said it “fully indemnified” the BoE’s move and stressed that though the Chancellor of the Exchequer “is committed to the Bank of England’s independence…The Government will continue to work closely with the Bank in support of its financial stability and inflation objectives. ”

‘Remarkable, necessary and deeply worrying’

Krishna Guha, strategist at Evercore ISI said the BoE’s decision to postpone QT before it started and launch a fresh QE program “is remarkable, necessary and deeply worrying.”

“Remarkable because it lays bare the seriousness of the financial stability risks emerging with the uncontrolled bond market backlash against reckless UK fiscal plans. Necessary because it is the responsibility of the central bank to ensure market functioning in the core systemically important government debt market, and is proving to be effective in early trading,” he said.

“Deeply worrying because it leaves prior QT plans in disarray, has an uncertain exit, and will raise further concerns about the independence of the central bank in the exercise of its monetary responsibilities,” Guha added.

The pound GBPUSD,
-0.46%
initially bounced but was trading lower at $1.0683 “We expect sterling to take the brunt of any further deterioration in overseas’ investors willing to lend to the UK; the MPC reluctantly will let it slide,” said Pantheon’s Tombs.

The FTSE 100 UKX,
+0.06%
rallied on the news but remained 0.6% down on the day. Insurers including Aviva AV,
-6.38%
and Legal & General LGEN,
-7.28%
saw heavy losses.

US stocks opened higher, with the S&P 500 SPX,
+0.03%
up 0.3% in early trade.

—Steve Goldstein contributed to this report

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