World Economy

UK 2-Year Gilt Yields Fall

UK 2-Year Gilt Yields FallUK 2-Year Gilt Yields Fall

UK government-bond yields might be at odds with Britain’s status as one of the fastest-growing economies among the richest nations.

Two-year gilt yields dropped 0.31 percentage point this month, the most since August 2009. UBS Group AG says that kind of pricing in the market is not justified by economic fundamentals. The Swiss bank along with Scotiabank Europe Plc says that investors may be reminded of that on Feb. 4 when the Bank of England releases growth and inflation forecasts, Bloomberg reported.

The skew in the market is partly because of renewed investor concern about the fallout from sputtering Chinese growth, the stock market rout and tumbling commodity prices that are driving demand for haven assets like gilts.

“Yields at these levels are not justified by the UK economic fundamentals,” said John Wraith, head of UK rates strategy at UBS in London. “The market doesn’t price in a rate increase until next year, and it will probably be told next week that it’s priced too dovishly.”

Forward contracts based on the sterling overnight index average, or Sonia, show traders aren’t fully pricing in a quarter-point increase to the BOE’s 0.5% bank rate until after March 2017.

The yield on 10-year gilts fell 40 basis points, or 0.40 percentage point, to 1.56% in the month. That’s the biggest drop in one year. The 2% gilt due in September 2025 rose 3.55, or 35.55 pounds per 1,000-pound ($1,422) face amount, to 103.90.

 Pound Weaker

Bank of England policy makers are scheduled to announce their latest interest-rate decision Feb. 4, when they also publish the forecasts in the much-anticipated Inflation Report. Officials including Governor Mark Carney and Kristin Forbes have said they’re waiting for wages to increase before increasing the key rate from a record-low 0.5%.

“The market has pushed back the timing of the first rate hike, so the working assumption must be that the tone of the Inflation Report should be equally dovish,” said Alan Clarke, an economist at Scotiabank, one of the gilt primary dealers. “We are not convinced. There is plenty of scope for the bank’s above target medium-term inflation projection to be revised up, not least given the plunge in the pound.”

The pound has weakened more than 7% against the dollar and the euro since the day before the previous Inflation Report in November. It fell almost 4% versus the dollar in January alone. A weaker currency supports inflation as it pushes up prices of imported goods.

Data suggest the UK economy held up in the face of global turmoil. A GfK index of household confidence rose to the highest since August this month, while growth in the economy accelerated in the fourth quarter.