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🏦🇬🇧Desk Commentary: Bank of England November Meeting

ING:

  • What comes next year however is far less assured. We think markets are wrong to price more than four rate rises by the end of next year, though policymakers have only offered a limited amount of pushback at this latest meeting. Tellingly, the Bank is still forecasting roughly 2% inflation over the medium-term – albeit as policymakers themselves flag, this is based on the unrealistic assumption that wholesale gas prices don’t fall back to more normal levels later next year.

  • Still, there are undoubtedly warning signs for markets. In the press conference, Governor Bailey hinted that the 'scale' of rate rises expected by investors maybe be misplaced. And the fact that only two members voted for a rate rise at this meeting hints that a rapid tightening cycle could struggle to command sufficient support.

  • There will inevitably be a debate about whether the seven members who voted to keep rates on hold did so as a temporary pause, or out of broader skepticism that rate rises are needed at all.

  • With that in mind, we expect a December rate rise and at most, two further rate rises next year (which we're penciling in for May and November 2022). Don't forget that the planned reduction in the size of the balance sheet, when rates reach half a percent, will do some of the heavy lifting.

  • Failure of the BoE to deliver on the expected 15bp hike today has triggered quite a sharp adjustment in money market rates and the pound. The biggest adjustment seems to have come in the late 2022 pricing for BoE rates, where the December Short-Sterling interest rate contract has rallied 18 ticks. EUR/GBP has risen around 0.9% - close to resistance levels at 0.8530.

  • Given that it looks like the BoE will probably go ahead and hike in December and that its ‘rate protest’ against market pricing of the BoE policy cycle was relatively modest, we doubt GBP has to fall too much further. For example, EUR/GBP sellers may return in the 0.8530/60 area.

  • And assuming that the BoE does hike in December and that UK inflation will keep the BoE poised to act through to next April when UK inflation peaks, we expect EUR/GBP to be pressing and potentially breaking below the 0.8400 level around the turn of the year.

Westpac:

  • Markets had walked back from pricing a decidedly more hawkish profile for MPC recently but were still geared for a potential hike today and guidance towards a more active hiking cycle through 2022. The debate had been what sort of voting split there might be in terms of dovish dissent. The outcome of policy being hold with only limited hawkish dissent, and then both MPR and the Governor’s Press Conference outlining a benign path for inflation outcomes through the forecast period and therefore only a modest need for tightening caught markets wrong-footed.

  • Short end rates contracts pulled back between -20bps to -30bps (basis Sept. 2022 through Sept 2023 Short Sterling futures), 5yr Gilt yields fell over -20bps to +64bp and 10yr Gilt yields declined -15bps to +92.5bps (having tested 1.22% in late October).

  • GBP was also hit hard as markets unwound rate spread related positions. The post-FOMC lift in USD exacerbated the move in GBP/USD which fell from around 1.3650 into the announcement towards 1.3470 and so declined over -1.5% on the day. EUR/GBP saw further squeezes from its late October test of 0.8400 and rose from 0.8465 prior to the meeting (EUR having softened on weak data) to above 0.8560 and so moved +0.90% on the day. There was an even more pronounced move in EUR/JPY which declined some -1.8% on the day to 153.30.

  • UK equities reversed their earlier lag to gains in other European markets and FTSE 100 rallied from around unchanged to gain +0.45%.


Wespac's Key Takeaways

  • BoE were more cautious on inflation potential and so profiled a more cautious and patient profile for policy through their forecast period to late 2024.

  • The voting split (7-2 for rates on hold) was decidedly less hawkish than markets had expected.

  • However, BoE remains optimistic for a return to pre-pandemic activity levels in 1Q 2022.

  • Concerns over post-furlough labour markets have softened their overall outlook and consequently means that the first post-furlough labour reports will be keenly awaited.

  • The MPC took great lengths to detail why they see global supply constraints to be firstly transitory (not lasting beyond 18-24 months) and largely immune to BoE policy changes.

  • Bank Rate is seen as lifting to only just above 1.0% into late 2023 as inflation falls back to or possibly below the BoE’s 2% target.

  • Markets were caught off guard by not only the relatively dovish on hold vote, but also the more shallow path for rates through the forecast period to late 2024.

UBS:

  • A big surprise today as the BoE did not hike rates- and even commented that they were "puzzled" by the pricing of rates markets. As a reminder, it was priced practically 0 chance of a Nov hike 2 months ago, but then a hawkish Sep meeting and subsequent comments from MPC members since -not least Bailey himself saying "this is a signal" in the FT!- caused the market to price 15bps or more into this meeting over a period of rather extreme volatility.

  • Whilst positioning and stop outs played a big part in the flattening of the curve past the 2y point, the very front end pricing was a logical reflection of MPC commentary so their talk of being puzzled by markets today was extraordinary. The initial market reaction was a parallel 15bps move lower in the front 2 years of the curve- though it was extended even further by the end of the sessions. The longer end steepened in fits and starts, with 10s30s Gilts trading in a 4bp range after its initial 5bp steepening. Flows saw systematic paying of IRS 10y and further out, which helped to richen spreads up to new highs. Some hedge funds came in to sell 30y spreads, adding to long held shorts, but 10y spreads had little resistance.

  • Looking ahead, whilst QE is ongoing until the end of the year the remaining issuance is fairly back end weighted and so could support a further steepening of the curve. The question will be what appetite there is to put on active GBP positions given the incredibly painful moves of the last few months. Short end volatility is likely going to be much lower, though the Dec meeting could be a coin flip now that the BoE have damaged their credibility somewhat.




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