Bridgewater Associates founder Ray Dalio has a new book to promote. So while I am loath to fuel the sales campaign, his latest bomb in an interview with the Financial Times — warning of a “death spiral” for Britain’s sovereign debt — requires a riposte.
Broadly, he makes some fair points, similar to those I highlighted here. But the hyperbole undermines the argument and is reminiscent of another billionaire investor, Bill Gross, whose 2010 comments that gilts were "resting on a bed of nitroglycerine" marked a positive turning point for UK debt prices.
An actual spiral would require a clear disconnect from where traders expect "terminal" official overnight interest rates to be at the end of this easing cycle and where two-year bond yields are. Both sit in the low 4% area — with longer yields mostly also having a 4 handle. With a 30 basis point reduction in 10-year yields over the past week, we are pirouetting away from the abyss.
Evidently, the UK is in a similar pickle to the US but with fewer seriously big sticks to bat away the vultures who delight in hovering above this sceptered isle. It also shares entrenched current-account and trade deficits. Nothing new here, but the UK is the sixth-largest global economy with debt and deficit ratios to gross domestic product that are significantly better than the US and most peers.
The UK is an open economy and sensitive to global trends, notably in financial markets. Sovereign financing does rely partially on the kindness of strangers but it's not the vulnerability some portray. It’s an asset. Global central bank foreign exchange reserve managers automatically re-weight on sterling weakness and concomitantly lighten up on the less frequent occasions it appreciates. While about 30% of gilts are nominally held by overseas accounts, much of that is owned by domestic investors through vehicles listed in Dublin and Luxembourg.
Most importantly, the UK has a highly liquid government bond market. Indeed, some of its recent yield surge could be put down to the depth of liquidity for leveraged players to finance short positions. Tuesday's 15-year syndicated sale was a barnstormer by any measure: a record £119 billion ($146 billion) order book and a new issue yield premium that tightened during the sale process. The £8.5 billion raised was half as much again as was expected.
It's not hard to see why overall gilt demand ought to improve when yields are still 80 basis points higher than seen in the summer and significantly higher than the rest of Europe. Real yields, after subtracting inflation, of over 2% are also attractive to global comparisons, especially when UK inflation expectations are heading lower.
Gilt primary dealers met at the Treasury on Monday to discuss upcoming fiscal year debt-raising plans. The impression from those who attended that I have spoken with is that confidence is improving. Any uplift from this year's £300 billion gross issuance plans ought to be relatively limited and dealers are relaxed about absorbing it.
The UK weathered the debt crisis fallout from the global financial crisis better than most in Europe because it has the longest weighted average maturity of any major bond market — over 13 years, nearly twice that of US Treasury debt. Investor demand has steadily shifted over recent years toward a preference for shorter maturities as pension and insurance funds require fewer ultra-long-dated assets. Foreign demand for short-medium maturities is also increasing. These trends will stick for the foreseeable future and DMO issuance plans reflect this.
The Bank of England has been deliberately dragging its heels on lowering interest rates, yet it will mostly likely cut its official rate again by 25 basis points on Feb. 6 to 4.5%. As growth concerns mount, it's probable it will signal loudly that more are to follow on a quarterly basis over the rest of this year. It may remain at the back of the major central bank pack, but it won't want to lag too far behind with growth flatlining. It could also get further out of the government's way if it desisted from obliterating its QE bond holdings back into the market - but maybe that will have to wait for a real emergency. Otherwise, nothing to see here. Hope your book sells real well, Ray — and don’t trip up on the way out.
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