The Bank of England has taken an aggressive approach to sell off the government bonds it purchased during the quantitative easing (QE) era, a process known as quantitative tightening (QT). While other central banks have been proceeding slowly with QT, the Bank of England has been the most aggressive, selling its bond holdings at a much faster pace than its counterparts.
This rapid pace of bond sales by the Bank of England has led to concerns in the market and has had a significant impact on bond prices. The net effect of these sales is equivalent to about 7.4% of all outstanding government debt, which is significantly higher than other central banks. This has put pressure on the gilt market to digest this influx of new bond issuance.
Despite the potential negative consequences, investors may find an opportunity in this situation. Inflation has started to fall, and further reductions are expected in the coming months. This could relieve the Monetary Policy Committee from hiking rates further and even open the possibility of rate cuts in the future, which the market is not currently anticipating. As a result, bond yields may appear cheap compared to the potential future outlook.
However, this aggressive approach to QT by the Bank of England has raised concerns about the cost to the state. Estimates suggest that QE may cost the state a net £110 billion, approximately 5% of GDP. By selling the bonds now, at a time when prices are low, the Bank of England is further exacerbating these losses and increasing borrowing costs for the government.
The Bank of England’s decision to prioritize the sale of bonds at the current unfavorable time raises questions about their secondary objective of supporting the wider prosperity of the UK. The reputation of the UK central bank may be at stake, with parallels drawn to their previous controversial decision to sell gold holdings at the bottom of the market.
If history repeats itself, the actions of the Bank of England could mark the bottom of the bond market. For investors, this presents an opportunity to lock in high gilt yields while inflation is decreasing and peak rates are within sight.
Source: Christopher Mahon, Head of Dynamic Real Return, Multi-Asset at Columbia Threadneedle Investments