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Stubborn inflation could lead to more base rate rises this year – Maddox

by: Alex Maddox, capital markets director at Kensington Mortgages
  • 17/05/2023
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Stubborn inflation could lead to more base rate rises this year – Maddox
In line with market expectations, the Bank of England’s (BoE) Monetary Policy Committee (MPC) raised interest rates by 0.25 per cent to 4.5 per cent.

This was approved by a majority of seven to two, with the minority preferring to maintain the rate at 4.25 per cent. The MPC said that the rise was necessary to bring inflation back under control. This is the 12th consecutive hike to the base rate, which has risen from 0.1 per cent in December 2021, and is the highest rate in 15 years.  

Due to sustained high inflation, much of the market are pricing in one further 25bps hike at the June meeting, taking the interest rate to a peak of 4.75 per cent.  

While a small number of market participants are pricing in two more hikes, this will depend on the level of inflation and the macroeconomic outlook in the UK at the time. The UK pound strengthened after the MPC’s announcement, closing at its highest level since September 2022. 


The state of the economy

The latest UK inflation data has shown a very small decrease to 10.1 per cent in the 12 months to March, down from 10.4 per cent in February, with overall inflation falling at a far slower rate than anticipated. This is largely due to the contributions from housing and household services, principally from electricity, gas, food, and non-alcoholic beverages, while the largest downward contributors were motor fuels and household liquid fuels.  

In the MPC’s latest modal projection, inflation is expected to decline to just over one per cent in only three years’ time. 

UK GDP is estimated to have fallen by 0.3 per cent in March after remaining flat in February, however it grew slightly by 0.1 per cent over the first quarter of 2023 showing greater resilience than forecasts a few months ago. Taking a broader view, UK GDP is expected to stay level over the first half of 2023 with growth accelerating in the second part of the year.  

The BoE no longer expects a long contraction of the economy on the back of stronger global growth, lower energy prices, a tight labour market, and more robust consumer and corporate confidence. 

New mortgage rates have remained relatively flat over the last couple of months with high street lenders currently offering two-year fixed products from 4.2 per cent and five-year fixed products from 3.8 per cent (all rates are dependent on loan to value and product fees). 

Unemployment ticked up slightly by 0.1 per cent to 3.8 per cent in the three months to February, with the increase driven up by people unemployed for up to six months. Nevertheless, the labour market continues to be very tight, with the number of employees also increasing. Labour demand has continued to ease with the number of vacancies falling over the quarter for the ninth consecutive period.  

Growth in regular pay (not including bonuses) was up by 6.6 per cent in the three months to February, although once adjusted for inflation it was shown to have declined by 2.3 per cent. 

   Forecast in rates 
Effective Rate  One month’s time  Three months’ time  Six months’ time  12 months’ time  Two years’ time  Three years’ time 
Bank of England base rate*  4.55 per cent  4.76 per cent  4.86 per cent  4.23 per cent  3.68 per cent  3.51 per cent 
Two-year Fixed rate**  4.35 per cent  4.27 per cent  4.13 per cent  3.87 per cent  3.60 per cent  3.44 per cent 
Three-year Fixed rate**  4.12 per cent  4.06 per cent  3.95 per cent  3.75 per cent  3.52 per cent  3.40 per cent 
Five-year Fixed rate**  3.85 per cent  3.80 per cent  3.73 per cent  3.59 per cent  3.43 per cent  3.36 per cent 
10-year Fixed rate**  3.61 per cent  3.59 per cent  3.56 per cent  3.51 per cent  3.46 per cent  3.45 per cent 

* Using OIS Curve  

**Based on the swap curve 

The two-year swap rate is expected to slowly decline over the next three years, with the three and five-year swap rates predicted to follow the same pattern. All are declining at a much slower rate than previously thought.  

The 10-year swap rate is anticipated to stay relatively flat and decrease by just 16bps in the next three years. 


UK securitisation market

The UK securitisation market has been exceptionally busy with a flurry of new deals issued since the Easter break, as nine transactions accessed the UK residential mortgage-backed securitisation (RMBS) market.  

Of these transactions, there have been four buy-to-let transactions from LendCo, Paratus, Keystone and a portfolio containing LendInvest collateral, two specialist transactions from UK Mortgage Lending/Pepper and three prime transactions from Bank of Scotland, Clydesdale, and Aldermore Bank. The majority of these transactions, however, had anchor orders in the book before the deal was marketed publicly, demonstrating some weaknesses in the market evidenced by persisting volatility.  

Spreads have largely retraced to pre-Silicon Valley Bank/Credit Suisse levels. 

Currently, there has been just over £5bn of UK RMBS paper placed into the market compared to approximately £15bn at this time last year, although c.£10bn of that was legacy paper. Due to wider market spreads, we have seen more prime issuances than specialist so far this year and only 36 per cent of the specialist volumes we saw at this time last year. 

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