BoE forecast to delve into credit market

Posted on July 12, 2016

Buses pass the Bank of England, in the City of London AP Photo/Matt Dunham©AP

Growing numbers of investors and economists predict the Bank of England will buy corporate debt as it tries to cushion a Brexit slowdown, following European intervention that has helped push borrowing costs for companies close to record lows.

The Monetary Policy Committee will meet on Thursday with a range of policies available as it considers the effect of Britain’s vote to leave the EU on consumer confidence and economic growth, amid volatile markets for the pound and Europe’s banks.

    The European Central Bank last month added corporate bonds to the list of securities it purchases each month, buying €9bn worth in a shift that has fuelled a debate about the limits of central bank policies during a worldwide collapse in bond yields.

    The European programme has been targeted at non-bank companies established in the eurozone and judged investment grade by rating agencies. “There is speculation the BoE is effectively going to do the same,” said David Riley, credit strategist for BlueBay Asset Management.

    While the interest rate paid by such European companies rose in comparison to government bond yields in the days following the June 23 vote — a so-called widening of credit spreads — the movement has largely reversed and overall corporate bond yields are close to a record lows.

    The BoE has in the past purchased only small amounts of high-quality bonds and short-term commercial paper, holding under £3bn in 2009, less than 1 per cent of the total £375bn of quantitative easing undertaken since the financial crisis.

    “If they expect to generate corporate investment, I would expect them to go deeper into the credit market,” said Alberto Gallo, manager of the Algebris macro credit fund.

    Economists at Goldman Sachs predict the BoE will signal such a programme after the MPC meeting and begin bond purchases in August. The bank estimates £131bn of bonds could be eligible: of £436bn outstanding, £197bn are issued by non-­UK domiciled companies, another £31bn are issued by banks, and £77bn would not meet maturity and rating constraints.

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    Issuance of investment grade corporate bonds has been subdued this year, running at a monthly pace of £900m, compared with £1.6bn for the same period in 2015, according to Goldman SachsHowever

    Howeve, some argue action by the BoE is not yet necessary given a recovery in corporate bonds close to pre-Brexit prices. “As long as we don’t see any pressure on funding for companies, why should it begin such a programme,” said Fabrice Montagne, chief UK economist for Barclays.

    Describing the outlook for UK financial stability as challenging, the BoE has already cut capital requirements for banks, reducing the countercyclical buffer rate from 0.5 per cent to 0 per cent of banks’ UK exposures in an attempt to encourage lending and reduce pressure on institutions.

    Alternative policies available include funding for lending schemes, to encourage banks to extend more loans to businesses and individuals, further changes to the way lenders are required to operate, and lowering the 0.5 per cent base rate in place since 2009.

    Derivatives markets imply a four in five chance of a 25 basis point cut in UK interest rates this week.

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