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Bank of England announces gilt market operation, GBP fails to bounce

on Sep 28, 2022
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  • Volatility in the UK financial markets rose dramatically after the Bank of England announced bond-buying
  • The British pound did not like more financial easing in times of rising inflation
  • The bond-buying is supposed to be temporary in order to restore financial markets normal activity

In a stunning development to the sterling crisis, the Bank of England announced today that it would start buying government bonds to support financial markets. As explained here, financial markets and the pound were in shock after last Friday’s announcement that the mini-budget will add fiscal stimulus when the opposite is needed.

After Friday closing at the lows, losing some 4% against the US dollar, the pound collapsed on Monday during Asian trading. It fell multiple big figures (i.e., one big figure is the equivalent of 100 pips points) before bouncing from an all-time low.

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Despite the fact that the Bank of England released a communique saying it stands ready to raise the bank rate, the markets remained in turmoil. Today’s announcement of temporarily buying bonds to support the gilts market is a reminder of how quickly the market can turn against you.

What about the pound’s reaction to today’s decision?

The news took everyone by surprise. Just like that, instead of selling bonds (i.e., quantitative tightening because of high inflation), the central bank starts to buy bonds (i.e., quantitative easing in times of high inflation).

No wonder the market participants were confused. As such, the GBP/USD exchange rate jumped on the news by about 100 pips, only to drop about 300 pips before recovering to the pre-announcement level.

The central bank’s decision did help the bond market, though, as bond yields fell from the elevated levels they reached after the mini-budget’s announcement.

GBP/USD chart by TradingView

What comes next?

Starting today, the Bank of England will purchase temporary long-dated UK government bonds. The aim is to restore orderly market conditions.

But now rumors surfaced that Parliament should be recalled and the Chancellor should abandon the mini-budget. If that is the case, expect the GBP pairs to rally across the board.

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