Bond Watch: gilts ‘attractive’ following latest rate cut

Welcome to interactive investor’s ‘Bond Watch’ series, covering the latest market and economic news – as well as analysis – that is relevant to bond investors.       

Our goal is to make the notoriously complicated world of bond investing simpler, by analysing the week’s most important news and distilling it into a short, useful and accessible article for DIY investors.            

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UK rates cut to lowest level in two years...

The Bank of England cut interest rates, from 4.5% to 4.25%, in a move that was widely expected by markets.

However, gilt yields rose following the decision, because two members of the Monetary Policy Committee voted to keep rates at 4.5%. This was interpreted as a hawkish sign, which could signal higher interest rates for longer in the UK.

The 10-year gilt now yields 4.6%, up from just below 4.5% before the interest rate decision.

Two members wanted a 0.5 percentage point cut and five voted for the 0.25 point cut. 

Investment manager PIMCO says that gilts are an attractive investment, given their high starting yields, tight fiscal policy, heightened global trade uncertainty, and a generally soft growth outlook.

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PIMCO adds that it expects the Bank of England to continue cutting interest rates even accelerating the pace in the second half of the year.

“The starting level of the interest rate is high, well above our neutral range estimate of 2%-3%. In addition, with fiscal policy tight and global trade likely to weaken, we expect increased pressure on monetary policy to act as the shock absorber, potentially even adopting a looser policy ahead,” said Peder Beck-Friss, an economist at the firm.

Sanjay Raja, Deutsche Bank’s chief UK economist, said that thethree-way split leans more hawkish than dovish. 

He commented: “Put another way, we now have two members who may be thinking that policy could be sufficiently restrictive at these levels. Also it’s worth noting that prior to global trade news, most of the five voters for a quarter-point rate cut were debating no change in Bank Rate. Put simply, this is still a very cautious, if indeed split, Monetary Policy Committee.”

...but the US central bank holds firm

While the UK cut interest rates, the US central bank kept them on hold, citing uncertainty around the impact of tariffs on inflation. US interest rates have been in a range between 4.25%-4.5% since December.

This was expected by markets, as chair Jerome Powell had previously said that there was lots of policy uncertainty and he was happy to wait and see what the impact would be before making interest rate decisions. Powell noted that there were risks to both higher unemployment and higher inflation.

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Jean Boivin, head of the BlackRock Investment Institute, said: “We have previously flagged the even sharper trade-off the Federal Reserve now faces between protecting growth by coming to the rescue with rate cuts, and reining in inflation.”

BlackRock’s view is that sticky inflation makes it difficult for the Federal Reserve to cut rates much further this year.