Travelling hopefully – reasons to be constructive 5-10y Gilt asset swap spreads

Research evidence excerpt

Travelling hopefully – reasons to be constructive 5-10y Gilt asset swap spreads

Bubbling under

Although it might look like it’s going to be a quiet week for Gilts, in terms of domestic

news at least, there is one event that could matter more than its unassuming description

might suggest – the publication tomorrow (7 July) of the record of the June meeting of

the Financial Policy Committee (FPC), in conjunction with the release of the July

Financial Stability Review (FSR).

Simmering in the background, the market will also become increasingly focused on the

Bank of England’s decision on the pace of quantitative tightening (QT). Although the

new “QT year” doesn’t start until October, and the final pace decision won’t be made

until the September Monetary Policy Committee (MPC) meeting, this month’s meeting

on the 30th will present the Bank’s updated analysis of QT progress, which could give a

strong steer on the decision. It is hardly an issue the market can ignore, given prompts

from the Governor’s forthright comments on the matter in Sintra and his recent article

on the subject for The Times.

Then there is, inevitably, the ever-evolving fiscal calculus, with judgments about fiscal

headroom and the likelihood of fiscal rules being met (or altered) being reworked in real-

time as parameters move and markets adjust their expectations about what the change

in administration will mean.

Fiscal breathing room but pressures remain

Taking the above three issues in reverse order, we’ll start with the fiscal situation, which

seems marginally less constrained than it has for a while. The drop in energy prices,

slightly better growth, softer Bank Rate expectations and lower Gilt yields imply that the

impact on the current budget headroom could be smaller than the £10bn we had