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Markets predict negative rates in 2022 despite six-month warning – Maddox

by: Alex Maddox, capital markets director at Kensington Mortgages
  • 12/02/2021
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Markets predict negative rates in 2022 despite six-month warning – Maddox
The Bank of England's (BoE) Monetary Policy Committee (MPC) members earlier this month voted unanimously (9-0) to retain its base rate at record lows of 0.1 per cent, as widely expected by the markets.


The BoE also held the total quantitative easing (QE) target at £895bn.

The MPC gave a hawkish tone, with the biggest takeaway being that the committee agreed to give lenders a six-month notice period to prepare for negative interest rates – the first time in its history. This suggests that August 2021 could be the earliest date where negative rates can be expected, by which point there are hopes that the UK economy may be able to reopen.

However, the MPC also highlighted that “this did not mean that negative rates were on the way” – so the position is speculative in any event. The BoE has been studying the case for negative rates for almost a year.


Economic recovery by 2022

UK GDP figures out today have risen slightly by one per cent in Q4 2020 compared to the previous quarter, but this is still 7.8 per cent lower than Q4 2019.

Despite avoiding a double dip recession – the total UK economy shrunk by almost 10 per cent in 2020 – the largest contraction in 300 years.

While the MPC expects UK GDP to contract by around four per cent in Q1 2021 due to the lockdown measures, it is projected that it will bounce back strongly in the months after.

The MPC noted GDP is projected to recover rapidly over 2021, as the vaccination programme will lead to easing of Covid restrictions and health concerns, with a 7.25per cent annual rise in 2021.

The MPC expects UK GDP to return to its pre-COVID levels in early 2022 rather than late next year.

It also indicated that the recovery in spending would be stronger because of consumers building up cash during lockdown. Between March and November 2020, households held over £125bn more cash than they usually would, according to the BoE.

Twelve-month CPI inflation rose from 0.3 per cent in November to 0.6 per cent in December. The weakness of recent outturns largely reflects the direct and indirect effects of Covid-19 on the economy.

CPI inflation is expected to be above the BoE’s two per cent target by Q1 2022, as the reduction in VAT for certain services comes to an end.

Despite the extension of the furlough scheme, the latest ONS figures show unemployment has hit a four-year high at five per cent and a further increase in unemployment is projected over the next few quarters.


Negative rates delayed

The market is expecting the BoE to cut interest rates below zero next year, for the first time ever. The market expects that the BoE base rate will fall to negative 25 basis points (bps) in 12 months’ time and return to zero in two years’ time.

Forecasts for the two-year rates and three-year rates will fall to zero and then increase to 25 bps in twelve months’ time.

Five-year rates remain at 25bps for the next two years and are expected to increase to 50 bps in three years, and 10-year rates to remain at 50bps for two years, then increase to 50bps in three years’ time.

Market participants believe at this stage, given that UK growth is in line to return to pre-pandemic levels, that the likelihood of further stimulus of the BoE is diminishing.

The MPC has reviewed its negative rate policy and highlighted that it is “not warranted by the current conjuncture and the outlook”.

Looking ahead, the likelihood of a rate cut in 2021 is seen as materially lower. For now, markets forecast the policy to remain unmoved this year and next.


UK Securitisation Market

The UK residential mortgage-backed securitisation (RMBS) market strongly reopened with the issuances of three transactions to date – all from specialist lenders.

We expect the pipeline for UK prime paper to remain dry as high street banks continue to benefit from cheap funding from the BoE via the term funding scheme (TFS) launched last year.

Kensington brought the first labelled environmental, social and corporate governance (ESG) bond in the UK RMBS market at the beginning of February.

This is a landmark transaction hopefully set to be followed by other social bonds as the securitisation market catches up to other capital markets which have more readily adopted ethical frameworks.



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