InvestmentsAug 31 2018

Overseas buyers of UK debt fall to 36-year low

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Overseas buyers of UK debt fall to 36-year low

Sales of UK government bonds, known as gilts, to overseas investors are at their lowest level since 1982 according to Justin Urquhart Stewart, co-founder of Seven Investment Management.

Data from the Bank of England showed the quantity of gilts held by foreigners was £17.15bn lower in July than the previous month, the sharpest fall since records began in 1982.

Mr Urquhart Stewart said the level of demand for UK gilts right now was a measure of the level of investor confidence in the terms of the UK leaving the European Union (EU).

He said the low level of sales mattered because Britain funds its current account deficit by overseas entities buying services, rather than goods, from the UK, primarily financial services. The sale of gilts also contributes to this, while allowing the UK government to fund itself.

This reliance on overseas funding has been described by Bank of England governor Mark Carney as "relying on the kindness of strangers".

The yield on a 10-year government bond right now is 1.46 per cent, much lower than the 2.5 per cent current rate of inflation.

There are two reasons investors would shun an asset perceived to be low risk, such as a government bond.

The first is the investor was confident economic growth and inflation were both rising, and decided to deploy capital into potentially riskier, but higher return, assets such as equities.

The selling price of the bonds would also likely fall if inflation was high as the typical response to higher inflation is to put interest rates up, meaning investors can buy newly issued UK government bonds at a higher rate, meaning holders of the existing bonds, would have to accept a lower price.

The second reason investors might shun UK government debt was if they feared the outlook for the economy would deteriorate, causing the currency to fall sharply in value.

Overseas investors who received the income from the bond in sterling and converted it to their own currency would have less purchasing power if sterling fell in value, making the bonds less attractive.

Peter Elston, chief investment officer at Seneca, said he would "rather put his hand in a blender" than buy UK government bonds because he expected inflation and interest rates to rise, causing the price of bond investments to fall.  

David Roberts, head of fixed income at Liontrust, said he wouldn't invest in UK government bonds because the yield was too low, regardless of the range of possible economic scenarios occurs in the UK in the years ahead.  

david.thorpe@ft.com