Bank of England unveils measures to ease strains in UK pension funds
Central bank announces short-term lending facility and says it is ready to boost daily bond buying
The Bank of England has unveiled measures to stave off further rushed asset sales by pension funds as the central bank looks to steady UK financial markets before its emergency bond-buying programme ends.
In a statement before markets opened in London on Monday, the BoE said it would allow a broader range of collateral, including corporate bonds, to be pledged at its new short-term funding facility. The central bank also confirmed it would conclude its £65bn bond purchasing scheme as planned on October 14.
The BoE’s latest plans come in the wake of turbulence in UK financial markets following Kwasi Kwarteng’s “mini” Budget on September 23, in which the chancellor announced £45bn in unfunded tax cuts. That ignited a historic sell-off in the UK government bond market, which in turn caused a crisis in the pension industry and prompted the BoE to set up its bond-buying scheme.
The bank said on Monday that it was prepared to increase the size of its daily purchases of UK government bonds in order to “ensure there is sufficient capacity for gilt purchases” before the programme ends on Friday.
The new measures “send a powerful message about the strength of the BoE’s commitment to maintaining stable market conditions,” said Daniela Russell, head of UK rates strategy at HSBC. “I suspect they realise that they have provided a useful circuit breaker, but this problem will take longer to be resolved, so pension funds are still exposed to another surge in yields in the near-term.”
While the central bank can buy a maximum of £5bn in gilts a day during its intervention, over the first eight days it purchased less than £4bn — meaning that it retains significant headroom for additional purchases if needed this week.
The Bank also announced a new short-term lending facility designed to ease strains on pension funds that use liability-driven investing strategies, which are at the centre of the market turmoil.
The sell-off in UK government bonds meant pension funds needed to rapidly sell assets such as corporate debt and property funds to make collateral payments to keep their LDI strategies in place, creating a vicious circle that created strains in the sterling-denominated debt market.
In its announcement on Monday, the BoE said it would allow a broad range of collateral, including corporate bonds, to be used in the new repo facility to “enable banks to help to ease liquidity pressures facing their client LDI funds through liquidity insurance operations”.
The repo market acts as a vital lubricant in movements of billions of dollars and euros. Banks and investors use the market to find cash for the short term, offering high-quality collateral such as government bonds in return.
Peter Chatwell, head of macro trading strategies at Mizuho, said the new facility would “reduce the need for LDI accounts to force sell to find liquidity, when they can borrow cash versus a wider range of existing collateral from the BoE”. He added that the “liquidity crisis [among funds using LDI] may be better addressed via this facility”.