Charles St-Arnaud, Senior Investment Strategist

Carney warns Brexit uncertainty is building

Charles St-Arnaud, Senior Investment Strategist at Lombard Odier Investment Managers, comments on the Bank of England’s August monetary policy announcement:

As anticipated, the Monetary Policy Committee of the Bank of England (‘BoE’) kept the policy rate at 0.25% by a vote of 6-2 and other parameters of monetary policy unchanged. The central bank also released its Inflation Report in which it expects weaker growth and roughly unchanged inflation than outlined in May.

We believe the main message from the BoE is that the market shouldn’t expect any change to monetary policy in the short-term, given the Brexit uncertainty, the decline in real wages and that fact that the overshooting of inflation is due to the post-referendum GBP depreciation. Nevertheless, Mark Carney said that not enough monetary tightening is currently being priced in by financial markets. We believe this is largely the result of weak productivity and potential growth. That means that excess capacity could be reduced more rapidly if growth picks up, generating inflationary pressures. While this is likely, we believe that continued uncertainty coming from Brexit negotiations will continue to drive inflation and the ability of the Bank of England to increase its policy rate faster than current market expectations. With this in mind, we believe that it will be hard for the BoE to hike rates before the end of 2017 and to tighten more aggressively than the market currently expects. Judging by the reaction to the decision, financial markets seems to agree with our view, with yields lower across the curve and the weaker GBP.

With rates in the UK expected to remain at record lows for some time, investors searching for yield should consider investing in emerging market bonds, especially those in local currency.

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