Sterling drops to two-week low after BoE's Bailey's comments roil markets

Pound notes and coins are seen inside a cash register in a bar in Manchester, Britain
Pound notes and coins are seen inside a cash register in a bar in Manchester, Britain September 6, 2017. REUTERS/Phil Noble/File Photo

NEW YORK/LONDON, Oct 11 (Reuters) - The pound fell to a two-week low against the dollar and euro on Tuesday, crushed by comments from Bank of England Governor Andrew Bailey who reiterated the bank will end its support for the bond market on Friday despite pleas from pension funds to extend it.

Bailey told pension fund managers on Tuesday to finish rebalancing their positions by Friday when the British central bank is due to end its emergency support program for the country's fragile bond market. read more

Earlier in the session, the Pensions and Lifetime Savings Association, an industry body, urged the BoE to extend the bond-buying programme until Oct. 31 "and possibly beyond."

Sterling slid to a two-week trough against the dollar of $1.0954 and was last down 0.8% at $1.0970. The euro rose to a two-week high versus the pound of 88.60 pence. It last traded up 0.8% at 88.45 pence .

"Governor Bailey's three-day ultimatum has caused new turmoil for UK markets and soured global risk sentiment," said John Doyle, vice president of trading and dealing at Monex USA in Washington.

The BoE earlier on Tuesday was forced to step into the government bond markets again to attempt to stem a damaging debt sell-off.

The BoE extended a series of debt buybacks to include inflation-linked bonds - predominantly owned by pension funds - which witnessed their biggest rout on record on Monday.

At first sale on Tuesday, the BoE bought 1.947 billion pounds ($2.15 billion) of inflation-linked debt, roughly half the maximum amount it said it would be willing to buy.

The central bank had already said it would double the amount of long-dated gilts it will buy to ensure a smooth end to its emergency buyback program.

"Potentially, there could be some clear downside risk in cable, I would think, towards $1.05 and euro/sterling towards 90.00," Valentin Marinov, head of G10 FX strategy at Credit Agricole said.


Indeed, investors have ditched their exposure to the pound in the last couple of weeks. Weekly data on Friday showed speculators took an axe to both their bullish and bearish bets on the pound, given the market's extreme volatility.

One-week sterling volatility is trading at almost 20% and, while down somewhat from the spike to almost 30% in the wake of the government's mini-budget, it is still well above the average of closer to 8% that has prevailed over the last five years, according to Refinitiv data.

The pound hit a record low of $1.0327 on Sept 26. It has since recovered around 6% in value, but is still showing a nearly 19% loss so far this year, on track for its weakest annual performance against the dollar since 2008.

On Sept. 23, British Finance Minister Kwasi Kwarteng unveiled a package of unfunded tax cuts worth around 45 billion pounds, including breaks for top earners. The pound promptly nosedived and the gilts market went into a tailspin, putting pension funds at risk of insolvency.

Gilt yields soared to their highest in years, prompting the BoE to step in to buy long-dated bonds.

Kwarteng has since scrapped the plans to abolish the top rate of tax and brought forward the date he will detail his other plans.

But sterling's problems extend beyond the liquidity crunch in the gilts market. The British economy is buckling under the weight of almost double-digit inflation and is expected to tilt into recession this year due to the effects of a cost-of-living crisis, sky-high energy bills and the drag of Brexit.

Reporting by Gertrude Chavez-Dreyfuss in New York and Amanda Cooper in London; Editing by Kirsten Donovan/Alexander Smith/Mark Heinrich/Ken Ferris

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