Flight-to-safety-week continues today after four of the most influential central banks laid down their monetary policy; all unchanged!
As uncertainty over the UK’s membership with EU continues to dictate market sentiment, it was no surprise that the Bank of England maintained its policy stance. In fact the market is currently pricing in a higher probability of a cut than a rate hike, well into 2017. The yield on the benchmark 10, 20 and 30 year UK Gilts have fallen to record lows this week, showing just how pessimistic the market view is. Sterling has also taken a beating, falling over 2.2% against the dollar just this week and hit multi-year lows versus the Japanese yen, at time of writing. According to Bloomberg economists, sterling is at risk of falling by as much as 20% against the dollar from current levels, if voters elect to leave, with median estimates calling for a rally up to around $1.45-$1.50 in the event that the UK remains.
Safe-haven benchmark yields have also slid further this week; the 10-year German Bund yield fell into negative territory for the first time on record on Tuesday and is currently trading at -0.02%; one market maker has stated that its “year-end forecast for 10-year Bund yields stands at -10bp.” Aside from the Brexit concerns, the ECB recently ramped up its QE program, buying EUR 60bn of debt a month, hoovering up more Bunds thus causing liquidity concern; leading to further pressure on already record low yields. The central bank is on hold for the time being, with the futures market pricing in more than a 50% chance of a cut at October’s meeting.
Staying with the EU, for now at least, the Swiss franc has come under renewed appreciation pressure, adding to the SNB’s policy limitations. The Swiss yield curve up to the 30-year benchmark is now trading in negative territory! Further upward pressure on the franc is expected ahead of the Referendum next week, if UK voters do choose to “leave” the EU, we expect the SNB and BoJ might intervene to defend their currencies against market headwinds.
Across the pond for more monetary policy decisions, the dovish Fed did not move to tighten policy yesterday. What surprised us was that there was no dissent from any members to the statement. The central bank’s dot plot continues to show a median two rate hikes this year, although 3 (down from 4) hikes next year and in 2018. The threat of Brexit continues to hang over the central bank despite some members commenting earlier in the month that the risk is minimal. When asked about the possibility of a UK exit from the EU, Yellen commented that it was one of the factors in making the decision to hold due to the “consequences for economic and financial conditions in global financial markets”, and “in turn for the U.S. economic outlook”.
The Ipsos Mori and Survation/IG Polls, which most closely predicted the Scottish referendum outcome released their phone polls earlier today; both show the “leave” camp in the lead with 53% (47% remain) and the IG Polls calling for 45% leave versus 42% to stay. Could be a very interesting week ahead of the Referendum, with the polls continuing to overshadow and influence market direction. We continue to see value in our investment grade holdings and remain comfortable with our current bar-bell strategy, of positions in AAA bonds, while absorbing beta from BBB holdings; creating a defensive A3 portfolio with a bias at the long-end.