Foreign investors pulled record sums out of UK government bonds in the aftermath of lautumn’s mini-budget and subsequent attempts by Westminster to stabilise the economy.
Data from the Bank of England showed that international bondholders sold £38.4 billion of gilts in the three months to November last year, a period that included Liz Truss’s disastrous tax-cutting measures in late September and the subsequent reversal of her policies under Rishi Sunak.
The gilts market was roiled by Truss’s attempt to stimulate growth through £45 billion in tax cuts, with investors anticipating a surge in bond issuance to plug the gap in the public finances.
The scale of the bond sell-off forced the Bank of England into emergency purchases of long-dated gilts to prevent fire sales from embattled pension funds. International investors have now dumped gilts for three consecutive months for the first time since early 2016, in the run-up to the Brexit referendum. The pace of selling slowed from £14 billion recorded in October and September to £9.5 billion in November, according to Bank data. The three-month average selling rate was the worst since records began 40 years ago.
Foreign bondholders are among the largest private owners of UK government debt, holding just under 30 per cent of the overall gilt market. International ownership had remained stable since the Brexit vote when some feared foreigners would dump UK assets amid a loss of faith in the economy.
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Positive investor sentiment towards the UK is crucial to fund the country’s record current account deficit, which requires overseas income to help the UK pay its way in the world. The deficit widened to a record 8 per cent of GDP last year.
Global sovereign bond markets have been hit by central banks raising interest rates at the fastest pace in 30 years, forcing up borrowing costs for most global governments. The Bank of England also became the world’s first big authority to start reselling gilts back to investors in an attempt to shrink its £800 billion balance sheet, forcing down bond prices and raising yields.
Jean Boivin, head of BlackRock Investment, said 2022 was the year of “the so-called bond vigilantes, with market forces punishing fiscal splurges with higher yields and diving currencies”.
The ten-year gilt yield, a proxy for the government’s borrowing costs, has fallen back from a peak of 4.5 per cent after the September mini-budget to 3.5 per cent. Longer-dated 30-year yields have dipped from 4.9 per cent in September to 3.8 per cent.
The gilts panic also pushed down the value of the pound, raising more concerns about the sustainability of the UK’s debt burden. Currencies usually rise when bond prices fall, but the drop in the pound, to an all-time record against the dollar in September, was the result of bearish sentiment around the economy and public finances.
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The pound has recovered from a record low of $1.03 to $1.20 against the dollar but “sterling’s performance this year will probably be driven by how soon the Bank can stop tightening and how quickly expectations of an easing cycle can build”, said Chris Turner, head of markets at ING.
