Britain suffered its first failed government bond auction since 2002 on Wednesday after bids fell more than 100 million pounds short of the 1.75 billion pounds ($2.55 billion) the government was trying to raise.
Gilt prices initially tumbled but market strategists said the result did not suggest Britain was facing an incipient funding crisis as it prepares to issue a record amount of gilts this year and next to fund extra spending through the recession.
Instead, they blamed opaque Bank of England gilt-buying plans for the fact the UK Debt Management Office (DMO) could not find enough bidders for the 2049 gilt at an auction where there would usually be heavy demand from pension funds and insurers. "Theres a state of confusion in the market at the moment. It requires greater clarity from the BoE on what its aims are," said Sean Maloney, strategist at Nomura International.
BoE Governor Mervyn King said on Tuesday the central bank could scale back its gilt purchases if they rapidly boosted the economy. This caused gilt futures to fall by their most in nearly a month as investors worried the BoE might not buy the 75 billion pounds of assets they had expected in the next 3 months.
Robert Stheeman, the head of Britains Debt Management Office, said he was not too concerned but would get worried if it became a pattern. "The market is unusually volatile at the moment. It is trying to digest a lot of news," he told Reuters in an interview. "If we were to see several uncovered auctions we would have to ask why."
The BoE currently only buys 5-25 year gilts in its asset purchase scheme, which started this month and aims to boost the money supply and plug the spending gap caused by the recession. Investors also took fright at an apparent lack of consultation between the BoE and the DMO after the BoE cancelled plans to buy a 2015 gilt on Wednesday after the DMO said at short notice it would sell more of that issue next week.
The DMO said after the auction that the 2049 gilt was the riskiest part of the curve, and investors shortage of funds at the end of the financial year might also have hurt demand. Britains last failed auction, in 2002, was for an index-linked gilt, and Wednesdays failure was the first since 1995 for a conventional gilt.
Germany suffered a failed auction in January for a 10-year Bund which roiled euro zone debt markets, though the problem has not been repeated. Other European countries have also been pumping up debt issuance because of budget shortfalls caused by the recession, and even smaller issuers such as Ireland have met reasonable demand as risk-averse investors favour bonds over shares.
Britains finance ministry denied the auctions failure reflected any wider difficulty in funding the countrys ballooning budget deficit, which is expected to require record gilt issuance this year and next.
"It would be wrong to read anything into the results of one auction event, a Treasury spokesman said, citing recent comments from the head of the DMO. "Demand for gilts clearly remains strong, and the small shortfall in funding today can be made good in future auctions," he added.
Investors bid to buy only 1.627 billion pounds of the 2049 gilt for a cover ratio of 0.93 times, in contrast to the last time the 2049 gilts was sold on December 2, when there were more than twice as many bids than there were gilts for sale. The June gilt future plunged to a session low - down 192 ticks on the day - after the auction, although it later recovered with technical support and then rallied to stand 47 ticks up on the day after the BoE found few ready sellers at one of its scheduled reverse auctions to buy gilts. The yield on the 2049 gilt itself rose more than 8 basis points to 4.54 percent after the auction as prices fell, though it later pared losses in line with broader market gains.
Moyeen Islam, a gilt strategist at Barclays Capital, backed the Treasurys view that the auction did not suggest Britain could face a major funding problem - a concern voiced by opposition politicians. "This is a poor result, but the bond itself isnt a poor bond. Its cheap and has attractive metrics. This is as much a reflection of the markets ability to absorb risk as it is the ability of the government to sell gilts," he said.
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