Markets predict negative rates in 2022 despite six-month warning – Maddox
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.
Base rate should ‘immediately be cut to -3 per cent’ – Star Letter 15/01/2021
This week’s comment came from Paul Barrett, who was responding to the article: There are ‘lots of issues’ with negative interest rates – Bailey
He said: “The Bank of England should immediately reduce rates to -3 per cent. If things start to get better, then increases can occur.
“The UK economy is in the toilet being kept afloat by massive taxpayer subsidy of quantitative easing and furlough. These rates should be kept for decades just like they were in Japan.
“The government should do all it can to persuade people to get into debt and spend. Negative interest rates are needed to reduce costs for the consumer.”
Slower return to growth means more Bank of England stimulus coming – Maddox
The BoE also increased the total quantitative easing (QE) target by £150bn to £875bn – beating market expectations which initially forecast £100bn.
This mainly consisted of £150bn worth of government bond purchases, whereas corporate bonds purchases remained at £20bn.
The MPC noted that the stimulus was to “support the economy” during the second national lockdown.
Despite continued media speculation, there was no mention of negative rates in the minutes, which indicated that the BoE is focussing on asset purchases for the near term.
The MPC’s tone was dovish, indicating an estimated contraction of the economy by close to three per cent in Q4 2020 due to the second lockdown, lowering 2020’s overall GDP growth to -11 per cent, a downward revision to August’s projections.
Economy and unemployment
Household spending was expected to increase at the start of next year, however the MPC acknowledged that the Brexit transition at the end of December would impact the economy as businesses adjust new arrangements.
The MPC also highlighted there would be a 7.25 per cent annual rise in GDP in 2021, revised down from the nine per cent increase anticipated in the August report.
However, the MPC upgraded its 2022 growth projection to 6.25 from 3.5 per cent.
The MPC now expects UK GDP to return to its pre-Covid levels in early 2022 rather than late next year.
Despite the extension of the furlough scheme, the latest Office for National Statistics (ONS) unemployment figures show unemployment has hit a four-year high at 4.8 per cent – but the MPC noted this will peak to 7.75 per cent by summer next year.
The MPC indicated that monetary policy will remain accommodative for some time, with no policy tightening expected until inflation returns sustainably to the two per cent target.
Recent ONS data indicates that inflation increased to 0.7 per cent in September 2020, up from 0.5 per cent in August 2020. The MPC expects inflation to rise to two per cent in two years’ time.
Negative rates forecast
With the fear of a second COVID wave and the risks of a no-deal Brexit, the market is expecting the BoE to cut interest rates below zero next year, for the first time ever.
The market expects the BoE base rate will fall to negative 25bps in the next six months and remain stagnant for the next two years, returning to zero in three years.
Forecasts for the three-month London Inter-bank Offered Rate (Libor) and two-year rates will fall to zero for the next two years and then increase to 25 bps in three years’ time.
Three-year rates remain at 25bps for the next year and are expected to increase to 50 bps in three years, and five-year rates to remain at zero for six months, then increase to 25bps.
Ten-year rates are likely to remain at 25bps for the next twelve months and then increase to 50bps in the two years.
All this follows on from the announcement of a first viable Covid-19 vaccine earlier this week.
Slower return means more stimulus
We believe at this stage, given that UK growth is likely to take longer to return to its pre-pandemic levels, that the likelihood of further stimulus of the BoE is currently on the horizon.
The MPC is still considering the operational implications of negative rates for financial institutions, and the avoidance of negative rates in the MPC minutes hints out that asset purchases will be the MPC primary tool for stimulus, for now.
The MPC added that it is “ready to take whatever action was necessary”.
UK ABS Primary securitisation markets continued to be very quiet this quarter and it is likely that transactions scheduled to access the market before the year-end will be postponed to early next year, on the back of the current economic backdrop.
Advisers should prepare their clients for any type of rate eventuality – Young
However, during those past 20 years, I cannot recall – even during the Credit Crunch and subsequent recession – a time when it was having to tackle some of the huge challenges it now faces.
Bank Base Rate (BBR) is central to this and even with the rate at a record low at the start of the year, it didn’t stop the MPC cutting it further to where it now currently sits at 0.1 per cent.
Part of the challenge within the mortgage market is highlighting to borrowers that a BBR of 0.1 per cent does not translate to rates of similar levels.
This is particularly when the ability of many borrowers to pay their mortgages is going to come under increasing pressure, specifically when the furlough scheme ends but even now as firms have to decide whether they can continue to function and what happens to their staff.
That said, with the BBR at 0.1 per cent there has been a growing interest in whether the next step could be for the MPC to take the rate into negative territory.
A point where it would charge banks to hold their reserves.
Advisers must explain
There appears to be a difference of opinion already among those on the MPC.
Whether this remains a step too far or not, it is indicative of the unique situation we all find ourselves in that this does appear to be a credible option for the bank.
There’s no doubting that BBR is a huge marker in terms of what is being done to stimulate the UK economy, and it’s a long way from those time periods when the MPC simply ratified the status quo month after month.
Given the talk around negative rates, advisers probably have a job to do here in terms of explaining what a potential negative BBR would mean for borrowers.
The answer is not a great deal in terms of their mortgage rates as they are still going to be in positive territory.
But if the logic above is followed through, then lenders might theoretically have a greater appetite to lend because the bank will be charging them for the money they keep on deposit.
Perhaps this could be good news for borrowers?
That would certainly be one of the outcomes the MPC would want to see if it dropped BBR into negative territory.
However, there is much to consider here, not least whether lenders’ appetite to lend would be shifted when we are all considering the economic impact on affordability and the ongoing ability of borrowers to pay.
Not to mention what savers will make of the situation.
It seems unlikely – at least in the short-term – that BBR will be moved below zero but this crisis has shown that those in power can’t afford to take any options off the table and they need to think the unthinkable and take decisions which would have been considered incredible just eight months ago.
We should therefore all prepare for any type of rate eventuality, and prepare our clients and borrowers for what this could mean for them, because they may be anticipating a period where their lenders start paying them, rather than the other way around.
And that simply is never going to happen.
Bank of England deputy governor warns over negative interest rates
Policymakers slashed the base rate to 0.1 per cent in the wake of the Covid crisis.
Central banks in other countries have taken rates below zero and some critics believe the Bank of England should follow suit.
However, Sir Dave (pictured) told the Society of Professional Economists (SPE): “At present, negative policy rates would be less effective as a tool to stimulate the economy.”
The impact of negative rates on banks would need to be considered, he added.
“If you’ve got negative rates in the toolbox, I feel duty bound, given my duties at the bank, that you’ve then got to explore in more detail the operational considerations which would go with implementing negative rates.”
Banks are typically hurt by lower interest rates which could come at a time when losses increase because of the pandemic.
Sir Dave said: “You don’t want to be in the position where you’ve said you think you could use them, then say at some point in the future, the committee concludes actually we should use them, then you go back and look in the toolbox, and find that actually you can’t use them for an operational reason.”
The deputy governor is a member of the bank’s rate setting Monetary Policy Committee (MPC).
He said the committee was not in a position to use negative rates “imminently” and policymakers would engage with banks.
“We’re continuing with a quantitative easing programme – no one is voting at present for negative rates,” he added.
The remarks contrast to fellow MPC member Silvana Tenreyro.
She recently said most of the signs from countries already introducing negative rates were positive.
‘Encouraging’ evidence around negative interest rates – MPC’s Tenreyro
Silvana Tenreyro, an external member of the BoE’s Monetary Policy Committee (MPC), told The Sunday Telegraph that most of the signs from countries already introducing negative rates were positive.
At its last meeting earlier this month, the nine MPC members voted unanimously to retain the bank’s base rate at the record low of 0.1 per cent.
However, the debate about whether the BoE should cut its headline rate into negative territory has been raging since it made two snap cuts within days in March to help tackle the emerging coronavirus crisis.
While MPC members have often cited opposing views publicly, financial markets expect that the BoE base rate will fall to negative 25 basis points in the next six months and remain there for the next three years.
Negative rates passed to borrowers
Speaking to The Sunday Telegraph, Tenreyro said: “We have been discussing our toolkit in recent months, including how effective negative rates might be in the current context.
“The evidence has been encouraging.”
She noted that there had been “almost full” pass-through of negative central bank base rates into retail lending rates by banks in most countries.
And she added that the increased activity and asset prices had boosted bank profitability in those countries by cutting likely impairments and losses.
Tenreyro’s comments appear to somewhat contradict Bank of England governor Andrew Bailey, who last week tried to cool expectations of a further rate cut, but did not outright reject the idea.
“Yes, it’s in the tool bag, but it doesn’t imply anything about the possibility of us using negative instruments,” he said.
Bailey added: “Nobody should read more into [it] than that’s the next stage of the work.”
Writing in Mortgage Solutions last week, Alex Maddox, capital markets director at Kensington Mortgages said the risk of a no deal Brexit was also weighing on the central bank.
“At this stage, given that the BoE is still considering the operational implications of negative rates for financial institutions, we can expect further stimulus for the economy via the quantitative easing [QE] program,” he said.
“This may potentially occur in November due to Brexit tensions rising and tighter social restrictions in the coming weeks.
“However, negative rates could still be considered at the start of next year, or sooner, if economic conditions worsen significantly by the end of 2020.”
Rising no-deal Brexit fears will push Bank of England to act – Maddox
The MPC also hinted strongly that it may consider going into negative territory for the first time in history.
Amid rising Covid-19 infections and the risk of a no-deal Brexit, the MPC minutes highlight that the Bank of England (BoE) intends to commence “structural engagements” with bank regulators in relation to the operational implications of negative rates in the next quarter.
This may mean that the BoE seeks to replicate the approach undertaken by other central banks, such as the European Central Bank and the Bank of Japan.
The MPC minutes highlighted an expected 18 per cent rise in GDP in Q3 2020, which was slightly higher than expected in the August report.
This was mainly driven by the positive high-frequency payments data which suggested that it had recovered around its start-of-year level in aggregate.
The minutes added that the level of social consumption increased partly due to the effectiveness of the government’s Eat Out to Help Out scheme launched during August.
Overall, for Q3, the BoE expects GDP to be around seven per cent below its 2019 Q4 level, which is slightly better than expected in August.
Rising unemployment, declining deflation
The MPC still expects a significant rise in unemployment to 7.5 per cent by the end of the year, which was already expected in the August report.
Surprisingly, according to the latest Office for National Statistics (ONS) numbers, the unemployment rate only rose slightly from 3.9 per cent in June to 4.1 per cent in July. However, as the furlough scheme is due to end on 31 October, we would expect this number to sharply increase.
The MPC indicated that monetary policy will remain accommodative for some time, with no policy tightening expected until inflation returns sustainably to its target of two per cent.
Recent ONS data indicates that inflation decreased from one per cent in July to 0.2 per cent in August, mainly arising from the Eat Out to Help Out scheme. The MPC expects inflation to rise to two per cent in two years’ time.
With the fear of a second wave and the risk of a no-deal Brexit, the market is expecting the BoE to cut interest rates below zero in the coming months.
The market expects that the BoE base rate will fall to negative 25 basis points (bps) in the next six months and remain stagnant for the next three years. Forecasts for the three-month London Interbank Offered Rate (LIBOR) will fall to negative 25bps in 12 months and then increase to zero in two years’ time.
Two-year and three-year rates are forecast to remain at zero for the next three years, and five-year rates to remain at 25bps and increase to 50bps in three years’ time and 10-year rates to remain at 25bps for the next three years.
At this stage, given that the BoE is still considering the operational implications of negative rates for financial institutions, we can expect further stimulus for the economy via the QE program.
This may potentially occur in November due to Brexit tensions rising and tighter social restrictions in the coming weeks.
However, negative rates could still be considered at the start of next year, or sooner, if economic conditions worsen significantly by the end of 2020.
What’s happening in the UK securitisation market?
On the back of the flurry of issuances seen in June and July, where there was a total of 11 UK residential mortgage backed securities (RMBS) transactions placed raising close to £6bn of wholesale funds, primary activity in September was quieter than the previous years with only three transactions being announced.
Pepper Money placed a £280m deal collateralised by 100 per cent of second charge loans originated by the Optimum platform, Warwick 1 was refinanced into Avon Finance No.2 in a deal collateralised by £850m of legacy assets and Shawbrook Bank announced an inaugural £360m buy-to-let transaction collateralised by TML loans.
However, none of these deals have used a fully syndicated process, as did RMS32 back in July.
We continue to see a large amount of primary bonds being pre-placed this month, similar to the market dynamic observed since the pandemic begun.
Furthermore, we expect to see a lack of primary supply continue from prime issuers this quarter as they will keep taking advantage of the new Term Funding Scheme – recently launched by the government to tackle the pandemic crisis offering a borrowing rate of 10bps.
Mortgage Vision: ‘Don’t expect the base rate to go up any time soon’ – Moloney
Speaking at the Mortgage Vision event about the post-pandemic economy, Moloney said not to expect the base rate to go up “any time soon”.
He said in 2018, experts predicted rates to remain relatively low in 2020 at around 1.5 per cent but said the Bank of England had also pushed rates up to allow some cushioning in case of a rough Brexit.
However, Moloney added this went out of the window with the coronavirus pandemic.
Moloney pointed out that the low rate environment went across the mortgage market as despite being hedged against swap rates, fixed rates were also low and mortgages had “never been as cheap as they are today”.
Active housing market
Along with low rates and cheaper mortgages, the stamp duty holiday has “propelled” activity in the housing market which continues to be buoyant, Moloney said.
He added: “The average house price in the UK is worth £30,000 more than it was going into the lockdown.
“Which tells you this market is still moving, still bubbling and the stimulus of the stamp duty holiday has had the desired effect.”
Markets predicting negative base rate as BoE keeps options open – Maddox
While the total quantitative easing (QE) target remained at £745bn, the pace of bond purchases slowed to £4.4bn per week.
And surprisingly, the Bank of England (BoE) has indicated the economy will recover quicker than initially feared.
The MPC stated that this year’s GDP is now expected to fall by 9.5 per cent, compared to 14 per cent forecast in May.
A strong demand in consumer spending supported by several government schemes is expected to drive a recovery in the next few months.
For reference, GDP fell by a record 20.4 per cent in the three months to June.
This is the second successive quarter of decline, confirming that the UK is in recession, however, the June monthly figures did show a growth of 8.7 per cent, indicating the economy was recovering quicker than expected as lockdown eased.
Positive economic data
The MPC expects a significant rise in unemployment to 7.5 per cent by the end of the year, which was lower than the nine per cent peak expected in May.
On the positive side, according to the latest Office for National Statistics (ONS) numbers, the unemployment rate remained at 3.9 per cent in May.
However, as the chancellor’s furlough scheme is unwinding, we would expect the rate of unemployment to rise.
Recent ONS data indicates that inflation increased from 0.7 per cent in May to 0.8 per cent in June, highlighting an incremental improvement in the economy.
The BoE forecast inflation to fall towards zero at the end of this year, but recover to the two per cent target within the next three-years.
The MPC noted that lower energy prices and the government’s announcement to cut VAT will drag inflation over the second half of the year.
Negative rate outlook
With the fear of a second Covid-19 wave and the risks of a no-deal Brexit, the market is seeking guidance on whether the BoE will consider cutting interest rates below zero.
The market expects that the BoE base rate will fall to negative 25 basis points (bps) in the next six months and remain at that level until 2023.
However, the BoE has noted that at this stage, negative interest rates would not work to stimulate the economy but indicated it would continue to review its negative rate policy.
This suggests the potential usage of QE, or other related methods, later this year.
Forecasts for the three-month London Interbank Offered Rate (LIBOR), two-year and three-year swap rates remain at zero for the next three years, and five-year and 10-year rates to remain at 25bps for the next three years.
Overall, the markets expect short-term and long-term rates to remain within the same range until 2023, thereby implying that mortgage rates will likely remain stable or potentially decrease until such time.
BoE: Mortgage lenders slow to pass rate cuts on
In March, the central bank made two significant and largely unexpected emergency cuts to its Bank Base Rate, taking it from 0.75 per cent to the all time low of 0.1 per cent.
As a result, vast numbers of tracker rate mortgages were removed from the market and the bank subsequently warned lenders that it would closely monitor how the rates were passed on to borrowers.
In the minutes of its latest meeting, which were published today, the bank’s Monetary Policy Committee (MPC) highlighted that it had been watching the situation and suggested lenders were slow to adjust their offerings to reflect the reduction.
“The committee continued to monitor the pass-through of its recent 65 basis point reduction in Bank Rate,” the MPC said.
“Pass-through of the reductions in Bank Rate to new mortgage rates had been slower than expected to date. That might reflect lags in transmission or other more enduring factors.
“Effective rates on the stock of standard variable rate and tracker mortgages had fallen by 54 basis points and 57 basis points respectively between February and April,” it added.