Emergency BOE Bond-Buying Does Nothing for Sterling

September 28, 2022
  • Fed officials remains hawkish; U.S. yields continue to rise, especially at the long end; data yesterday showed that the U.S. economy remains very resilient; housing data were mixed
  • The BOE announced that it would carry out temporary purchases of long-dated gilts; the U.K. is coming under international criticism; comments from BOE Chief Economist Pill suggest little urgency to act on rates; even the ECB hawks have their limits; Hungary delivered a hawkish surprise by hiking rates 125 bp to 13% vs. 100 bp expected
  • Australia reported firm August retail sales; the yuan continues to weaken; Thailand hiked rates 25 bp to 1.0%, as expected

The dollar continues to power ahead on the back of higher U.S. yields. DXY is up for the seventh straight day and traded at a new cycle high near 114.778 today. Sterling is underperforming again today despite plans for emergency BOE bond purchases (see below). Cable is trading near $1.0665 and we look for an eventual test of this week’s new all-time low near $1.0350. The euro remains heavy and made a new cycle low today near $0.9535. We continue to target the psychological $0.90 level. USD/JPY is trading just below 145 and markets are likely to soon test the BOJ’s resolve. The combination of ongoing risk off impulses and repricing of Fed tightening risks is likely to keep the dollar bid across the board near-term. With the outlook for the rest of the world still worsening, the global backdrop continues to favor the dollar and U.S. assets in general.


Fed officials remains hawkish. Bostic, Bullard, Powell, Bowman, and Evans speak today. Yesterday, Fed speakers toed the party line. Bullard said rates may need to move to “the 4.5% range” and added “We have just now gotten to the point where we can argue we are in restrictive territory. I think we need to stay at that higher rate for some time to make sure we’ve got the inflation problem under control.” Most importantly , Bullard said that the credibility of the Fed’s inflation targeting regime it at risk, suggesting he will do what he can do maintain it. Kashkari said “We are moving very aggressively. There’s a lot of tightening in the pipeline. We are committed to restoring price stability but we also recognize given these lags there is a risk of overdoing it.”

U.S. yields continue to rise, especially at the long end. The 2-year yield traded near 4.35% Friday, the highest since August 2007, but it has drifted lower to around 4.20% currently. However, the 10-year yield traded today near 4.02%, the highest since October 2008. The real 10-year yield is trading near 1.58%, the highest since March 2010. This generalized increase in U.S. yields is likely to continue and will ultimately support the dollar. Of note, the 3-month to 10-year curve rose to 71 bp yesterday, the steepest since July. It has since fallen to 66 bp today but we are not yet ready to call for an imminent recession in the U.S.

Data yesterday showed that the U.S. economy remains very resilient. August durable goods orders came in at -0.2% m/m vs. -0.3% expected and -0.1% in July. However , so-called core orders (non-defense ex-aircraft) jumped 1.3% m/m vs. 0.2% expected and a revised 0.7% (was 0.3%) in July. September Richmond Fed manufacturing survey came in at 0 vs. -10 expected and -8 in August. Conference Board consumer confidence came in higher than expected in September. Today, August pending home sales (-1.5% m/m expected), advance goods trade data, and wholesale and retail inventories will be reported.

Housing data were mixed. July FHFA and S&P CoreLogic house price indices came in at -0.6% m/m and -0.2% m/m, respectively. This was the first m/m drop in the S&P CoreLogic series since 2012. Along with the m/m drop, the y/y rate has fallen significantly in recent months. With mortgage rates at multi-year highs and still rising, housing weakness is set to continue for quite some time. The good news here is that home prices will continue falling. As a result, the shelter components in both the CPI and PCE baskets will fall and pull overall inflation lower. It's a long and often lagging process but at least it's begun. Lastly, August new home sales jumped 28.8% m/m vs. -2.2% expected and a revised -8.6% (was -12.6%) in July. We’re assuming the new home sales reading is an outlier, with perhaps a lot of folks rushing to buy before mortgage rates go even higher. This should revert to mean in the coming months.


The Bank of England announced that it would carry out temporary purchases of long-dated gilts. The bank noted that to achieve its objective of maintaining financial stability, “the Bank will carry out temporary purchases of long-dated UK government bonds from 28 September. The purpose of these purchases will be to restore orderly market conditions. The purchases will be carried out on whatever scale is necessary to effect this outcome. The operation will be fully indemnified by HM Treasury.” It stressed that “These purchases will be strictly time limited. They are intended to tackle a specific problem in the long-dated government bond market. Auctions will take place from today until 14 October. The purchases will be unwound in a smooth and orderly fashion once risks to market functioning are judged to have subsided.” The BOE said it would also delay its planned bond sales that were to begin next week until October 31.
Gilt yields tumbled as a result but this is likely to be only a temporary reprieve. The 10-year yield is down nearly 50 bp on the day and the 30-year yields down nearly 75 bp. But at the heart of the crisis lies an unsustainable fiscal and monetary policy mix. The only thing that can turn things around is a rethink of the fiscal package and so far, Chancellor Kwarteng is doubling down and so this can only end in tears.

The U.K. is coming under international criticism. The IMF said “Given elevated inflation pressures in many countries, including the UK, we do not recommend large and untargeted fiscal packages at this juncture, as it is important that fiscal policy does not work at cross purposes to monetary policy. Furthermore, the nature of the UK measures will likely increase inequality.” We believe it is pretty rare for the IMF to make such comments outside of its annual Article IV reviews. Elsewhere, Moody’s warned that large unfunded tax cuts are typically “credit negative,” raising the prospects of a downgrade to its Aa3 rating. The agency also predicted that growth would slow as a result of the package, directly contradicting the Chancellor’s assertion that growth would pick up.

Comments from Bank of England Chief Economist Pill suggest little urgency to act on rates. He noted that there has been a significant repricing of assets and that the MPC cannot be indifferent to this repricing. Pill noted that market moves pose a challenge to the bank’s inflation goal and added that the recently announced fiscal measures will act as demand stimulus. However, he said that it’s better to run policy with a considered approach and that the vehicle for assessment of all these developments is the MPC forecasts. In other words, Pill is saying not to expect anything until new forecasts are released at the November 3. We really don't think the markets have the patience to wait that long and may test the BOE's resolve much sooner than that.

That said, is there anything the BOE can do to support the pound? They just met last week and hiked rates by a lackluster 50 bp but would 75 or 100 bp really have made much difference? As it is, WIRP suggests a 150 bp hike November 3 is fully priced in. The swaps market is pricing in a peak policy rate near 6.0% over the next 12 months, up from 4.5-4.75% at the start of last week. Yet neither higher rates nor the emergency bond-buying plan have done anything for sterling, which is trading at the lows of the day near $1.0675. Market confidence, once lost, is always difficult to regain.

Even the ECB hawks have their limits. Regarding the next meeting October 27, uber-hawk Holzmann said “50 may be the minimum” and added “Could it be 100? It could but I don’t see the necessity now to go as fast. I think 75 would be a good guess.” Elsewhere, ECB President Lagarde said “We will do what we have to do, which is to continue hiking interest rates in the next several meetings. Our primary goal is not to create a recession. Our primary objective is price stability and we have to deliver on that. If we were not delivering, it would hurt the economy far more.” WIRP suggests another 75 bp is almost full priced in for October 27, while the swaps market is pricing in 250 bp of tightening over the next 12 months that would see the deposit rate peak near 3.25%, up from 2.75% at the start of last week.

National Bank of Hungary delivered a hawkish surprise by hiking rates 125 bp to 13% vs. 100 bp expected. However, it also announced that it is ending the tightening cycle. The bank said it would maintain tight monetary conditions and will use “other tools” to rein in inflation as it focuses on tightening liquidity. The bank raised its 2022 inflation forecast to 13.5-14.5% vs. 11-12.6% previously and cut its growth forecast to 3-4% vs. 4.5-5.5% previously. So Hungary joins Poland and Czech in trying to end the tightening cycle. It has a chance at being more successful as its 13% policy rate is much higher than 7.0% in Czech and 6.75% in Poland.


Australia reported firm August retail sales. Sales rose 0.6% m/m vs. 0.4% expected and 1.3% in July. In y/y term, sales rose 19.2% vs. 16.5% in July and was the strongest since April 2021. The consumer remains resilient as the labor market remains in solid shape. As such, the RBA is likely to continue on its tightening path. WIRP suggests nearly 55% odds of a 50 bp hike October 4, while the swaps market is pricing in 200 bp of tightening over the next 12 months that would see the policy rate peak near 4.35%. Yet this has done nothing for AUD, which traded at a new cycle low today near .6365 and seemingly on track to test the March 2020 low near .5510.

The yuan continues to weaken. USD/CNY is trading at its highest level since 2008, while USD/CNH is trading at all-time highs. Not surprisingly, the US-China yield differentials are in favor of the dollar by the most since 2007 and so this yuan weakness is totally warranted. The PBOC may push back here and there with regulatory measures but until the monetary policy divergences narrow, yuan weakness is here to stay.

Bank of Thailand hiked rates 25 bp to 1.0%, as expected. The vote was unanimous as the bank note “The Thai economy will continue to recover but with increased inflation risks. The policy rate should be normalized in a gradual and measured manner to the level that is consistent with sustainable growth in the long term.” The bank forecasts 3.3% growth this year and 3.8% next year and sees 6.3% inflation this year and 2.6% next year. The inflation outlook seems too optimistic given the BOT’s rather gradual approach to tightening even as headline inflation rose 7.9% y/y in August. The swaps market is pricing in 200-225 bp of tightening over the next 12 months that would see the policy rate peak between 3.0-3.25%. Of note, USD/THB is trading at the highest since 2006 and is about to test the May 2006 high near 38.615.

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