A BOE Hawkish surprise sends 10-year Gilts in a fast trading area
The bond market was caught by surprise when the Bank of England said that it seems appropriate to hike interest rates before its bond purchasing program finishes around the end of the year. Therefore, it opens up the possibility of a rate hike already by November or December despite the market adjusted expectations for the beginning of 2022. To add to bearish sentiment, earlier expectations of a rate hike implies that the Bank rate threshold of 0.5% will be reached by the end of 2022. Thus, an active reduction of the BOE's balance sheet might be possible already by the end of 2022.
The BOE's decision stems from the expectations that inflation will rise up to 4% and might sustain above the central bank's target throughout 2022, showing that inflation is beginning to force central banks’ hands into tightening monetary conditions.
Gilt’s yield curve bear flattened with yields up to 5-years rising by more than 10bps while long term yields rose roughly 8bps on the day. Ten-year yields closed the day yesterday, testing resistance at 0.9% and this morning, they opened at 0.92%, entering in a fast area that will take them up to 1.07% or fast down back below 0.9%. To test yields uptrend going forward will be the challenges the UK economy faces in the upcoming months due to tightening of fiscal policies and the end of the furlough scheme. On one side, the BOE might think that tightening monetary policies might upset the economy and decide to wait. On the other, the central bank might be too concerned about overshooting inflation, making interest rate hikes unavoidable.
Regardless, we continue to believe that Gilts are way too expensive and that the 10-year yields should reprice above 1% by the end of the year.