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Market Update

Gilt yields surge amidst BoE's sustained tightening efforts

October 9, 2023


Rates on the rise once again, private sector investment, an economic update, and more in today's fortnightly.

Market update

Economic news

  • September Services PMI came in at 49.3, showing a modest decline from the previous reading of 49.5. Notably, while this number surpasses the earlier flash PMI of 47.2, it marks the lowest level since January of this year.
  • This slight contraction is attributed to subdued demand and a reduction in client expenditure, reflecting an elevated risk-averse sentiment.
September pmi graph

Source: S&P, Bloomberg

  • Manufacturing PMI for September came in at 44.3, indicating an improvement from August's 43.0. Despite this uptick, it still signifies a contraction in manufacturing output as it remains below the neutral threshold of 50.
  • Similar to the Services PMI figure, the reasons cited for this trend include sluggish demand, necessitating a reduction in production, and cost management to safeguard profit margins.
  • Encouragingly, certain inflationary pressures are easing and optimism is returning in both sectors, with some anticipation of an increase in activity over the coming year.
  • According to the Halifax House Price Index, there was a decline of -0.40% in house prices between August and September. On an annual basis, the Index returns a significant -4.70% decrease. However, average house prices still exceed pre-pandemic levels.

Sterling rates markets

  • Over the past fortnight, there has been a 20-basis-points increase in both the gilt yields and the SONIA swap curve.
  • This increase is primarily attributed to market uncertainty surrounding the trajectory of inflation and the divergence of opinion regarding the likelihood of another interest rate hike by the Bank of England (BoE) before year-end.
  • Notably, the 30-year gilt has surpassed the 5.00% mark, indicating a growing conviction among investors that interest rates will remain high for an extended period.
Sonia gilt curve graph

Source: Bloomberg, Chatham Financial

  • Furthermore, the BoE's implementation of quantitative tightening is anticipated to further drive up gilt yields.
  • As it proceeds to reduce its holdings of U.K. government bonds by an additional £100B over the next year, bond prices are expected to decline — leading to higher yields and a steeper yield curve.
  • Therefore, as the BoE withdraws liquidity from markets and keeps the base rate at elevated levels, it is likely that gilt yields will continue their upward trajectory.
Market pricing implied policy rate

Source: Bloomberg, Chatham Financial

Housing association spreads

  • Housing association (HA) secondary spreads are experiencing a slight widening, albeit only by one to two basis points across each tier and spreads remain near their lowest levels of the year.
  • Notably, there has been some convergence between tier 2 and tier 3 spreads, as investors are beginning to treat credits at the verge of a downgrade similarly to those that have already been downgraded.
Ha secondary spreads

Source: Bloomberg, Chatham Financial

Bank market

  • Chatham has seen a slight widening of bank margins over the past fortnight. This is a reflection of their own cost of capital increasing.

Private sector investment

  • Investment firm M&G has signed shared ownership agreements with three housing associations, totaling £62.7M. The deals involve 370 shared ownership homes, some of which are already built, with others to be forward funded.
  • The associations (Hyde Group, Chelmer Housing Partnership, and Park Properties Housing Association) will reinvest funds from property sales into new home development pipelines and will continue to manage the properties on behalf of M&G.

Indicative pricing

Indicative pricing

*including on cost

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This material has been created by Chatham Financial Europe, Ltd. and is intended for a non-U.S. audience. Chatham Financial Europe, Ltd. is authorised and regulated by the Financial Conduct Authority of the United Kingdom with reference number 197251.