The UK has a more serious case of the same trends that are driving inflation up in the US and around the world.
“It’s extreme, I’ve never seen anything like it,” said Bethany Payne, global bond portfolio manager at Janus Henderson. “What you’re seeing in the UK is a broad increase in inflation expectations.”
According to Deutsche Bank, inflation-linked gilts, as UK government bonds are known, indicated that the UK retail price index could rise to an annualized rate of 7% by April 2022.
The one-year inflation swap rate rose to 6.27% earlier this week from 5.77% last week, the highest level since at least 2005 and hovered closer on Thursday. The three-year inflation swap rate also jumped, reaching near 5% in intraday trading.
The sharpness of the move indicates that some investors may have been forced to sell as automatic sell orders known as stop losses have been hit, according to traders. There has also been a sudden high demand from market players to use swaps to hedge against the risk of high inflation.
There is a more serious case of similar trends driving inflation in the UK, US and around the world: supply-chain disruptions, labor shortages and rising energy prices. US bond yields have also increased in recent days, although dramatically lower than those of the UK.
The 10-year Treasury yield saw an increase of 0.03 percentage-point to its highest point so far this month, before lowering as low as 1.515% on Thursday. The same yield of gilt increased four times over the same time frame.
Britain’s problems are compounded by a severe shortage of natural gas, which has driven energy prices to record highs. The UK’s exit from the European Union has exacerbated energy issues, which have shrunk the country’s labor pool. A clear effect of the labor shortage: a supply crisis at gas stations due to a shortage of tanker truck drivers.
“The concern is that if we persist with high inflation for a long period of time, it could result in a second round of wage demand and, effectively, inflation of a more permanent nature,” said rates and inflation strategist George. Garayo said. Societe Generale.
Natural gas futures in the UK have more than doubled in the past month and have risen almost six times since the start of the year.
George Cervelos, global head of FX research at Deutsche Bank, said: “To put things in context, accounting for relative energy use in Europe, for example, the natural gas price seen this year is about $200 a barrel. Oil equals business.” The importance of these steps on inflation and growth should not be underestimated, he added.
Inflation is already on the rise. The consumer-price index in the UK rose at an annualized rate of 3.2% in August, higher than economists forecast. The retail price index, another inflation gauge commonly used by the bond market as a benchmark, jumped 4.8%.
To be sure, some investors and economists have raised questions about whether inflation estimates calculated from trading financial products such as swaps have the predictive value that many believe. But they are closely watched by investors.
Britain has a long history of troublesome bouts of inflation, including a prolonged stretch in the 1970s, and again in the early 1990s when it devalued the pound, which pushed up import prices.
The Bank of England indicated in recent weeks that interest rates are likely to rise in the near future, making it among the freshest of major developed market central banks. Its quantitative easing program is planned to end at the end of the year.
Some investors are betting that the central bank will have to raise rates sooner than before to try to cushion the recent surge in inflation. It is targeting an annual rate of 2%.
“They have to look more reactionary on this data, they can’t just sit back and watch the laissez-faire,” said Janus Henderson’s Ms. Payne.
In anticipation, investors are selling out of UK government bonds, with the yield on the benchmark 10-year gilt rising to 1.153% on Wednesday, the highest level since May 2019. When prices fall, yields increase. The move partly follows a broader increase in government bond yields driven by expectations that the Federal Reserve will begin reducing bond purchases from next month.
John Wraith, head of UK rates strategy at UBS, said: “Investors are seeking higher premiums to buy UK debt because they are concerned about how much of that fixed income is going to be eroded by inflation over time. “
—Joe Wallace contributed to this article.
write to Anna Hirtenstein at [email protected]