Mansion House Speeches Set Tone For Extended Loose Money Period
Posted on 5 July 2012 by
Today’s MPC decision to leave Bank Rate unchanged was a foregone conclusion, following Mervyn King’s speech at The Mansion House Banquet. Likewise, after last month’s narrow 5-4 vote not to increase the amount of Quantitative Easing, coupled with various negative vibes about the UK economy over the last month, it would have been a major surprise if the MPC had not voted to increase QE by at least £50bn. The improved inflation outlook, primarily as a result of lower commodity prices, especially oil, is also relevant.
The latest piece of EU sticking plaster, offering bail out funds directly to banks in the struggling countries, has not only bought the Eurozone yet more extra time but is particularly helpful to the UK. This is because out of all Eurozone countries, UK banks are particularly exposed to Ireland with, for example, two thirds of Lloyds Banking Group’s Eurozone exposure being to Ireland. This latest EU measure has resulted in Ireland today, for the first time since September 2010, dipping its toe back into the capital markets, albeit only by issuing 3 month Treasury Bills.
There was strong demand for its 500m euro issue, which was sold at a yield of 1.8%, lower than the rate Spain has to pay on comparable bills. A further indication of the market’s improving assessment of Irish debt is that the yield on its bond maturing in 2020 has fallen from over 14% last year to close at 6.27% yesterday. This is very encouraging, not only for the UK banking sector because of its exposure to Ireland, but also the UK economy as a whole because of the significant level of our trade with Ireland. If Ireland manages to avoid what still looks like the ultimate fate of Greece - leaving the Eurozone and defaulting again – the UK will be the major external beneficiary.
Gilt yields, swap rates and Libor rates, which now appear to be genuine!, all fell sharply after last month’s Mansion House Banquet speeches from The Governor and The Chancellor. Swap rates touched new all time lows with 5 year swaps falling from 1.37% prior to the speeches to as low as 1.14%. Although they have since risen a little to 1.26% this level is still 20 basis points below the level a month ago. 3m Libor is still falling and its current level of 0.88% is 11 basis points lower than immediately prior to the Mansion House speeches.
Although we still await full details of the Funding for Lending scheme this initiative appears much better targeted and thought through than Project Merlin, and improves the prospects for mortgage funding when the scheme becomes effective. Indeed, as a result there is now a strong likelihood that gross mortgage lending for this year will at least hit last year’s £141bn, rather than falling to the widely forecast £130bn level. Meanwhile, there have been modest reductions in fixed rate mortgage pricing over the last month, with the cheapest 5 year fixed rate now down to 3.69%, from Nottingham Building Society.
Current indications are that Bank Rate will remain very low for an even longer extended period than expected only a month ago. It is partly as a result of this expectation that the cost of fixed rate mortgages has fallen. However tracker rates have remained largely unchanged and as a result the premium one has to pay for interest rate security over a period as long as 5 years is now again low enough to make 5 year fixed rates an attractive option for many borrowers. Furthermore I expect the choice of sub 4% 5 year fixes to increase over the next few weeks.
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