UK under pressure to issue fewer long-dated bonds

Zawya

06-02-2025

LONDON - Britain is under pressure from bond dealers and investors to sell fewer long-dated government bonds - which briefly slumped in value earlier this year - as it seeks to finance around 300 billion pounds ($375 billion) of public borrowing next year.
The country's 2.6 trillion pounds of outstanding government bonds - the fourth-highest total in the world after the United States, China and Japan - has an average maturity of 14 years, the longest of any economy and double the norm.
While this has fallen from a peak of 16 years in 2019, investors and dealers say the UK Debt Management Office should move faster to lower the average maturity of debt it issues when it sets out plans for the upcoming financial year on March 26.
"It feels like it's becoming a lot more pressing," said Mitul Patel, a senior portfolio manager at investment firm State Street, which manages $4.7 trillion of assets globally.
Not cutting issuance of long-dated gilts could increase the market's "underlying fragility" if there was another big selloff like at the start of 2025, Patel warned.
"If you oversupply the market with longs, that could have a much bigger impact, in that you'd see much more disorderly selloffs as a result of that in this current environment," he said.
Amid a global bond selloff before last month's inauguration of U.S. President Donald Trump, British 30-year gilt yields hit their highest since 1998 at 5.47%, compared with below 1.5% less than three years ago.
Some of the intense pressure on British debt was linked to finance minister Rachel Reeves' plans to ramp up borrowing to spend more on public services and investment.
Gilt dealers last month called on Britain's Treasury to skew public debt sales towards shorter-term bonds, largely because of a fall in demand from company pension funds.
Starting in the early 2000s, regulators required final-salary pension schemes to buy long-dated bonds to fund future payouts. This process is almost complete and nearly all schemes are closed to new employees.
"There simply isn't the demand for longer-dated paper on a demographic basis compared to 20 years ago," said Moyeen Islam, fixed income strategist at Barclays, a primary dealer in gilts.
LOWER DEMAND FOR LONGER DATES
Issuing long-dated gilts has advantages for Britain. It locks in interest rates for over 50 years in some cases, providing greater certainty over government borrowing costs, and reduces the amount of debt that has to be refinanced each year.
But short-dated gilts appeal to a wider range of investors, including banks, hedge funds and foreign investors who own around 25% of British debt.
"We're definitely seeing a shift shorter from our client base," said Megum Muhic, a strategist at RBC.
Demand for short-dated gilts is more elastic due to the wider investor base, something the DMO took advantage of in the COVID pandemic. Long-dated bonds pose greater risks of losses for investors.
The spread between 30-year and 5-year gilt yields is around 0.9 percentage points, the widest since 2021.
The high outright level of yields means that on a 20-year gilt Britain is effectively locking itself into paying 6% annual interest between years 10 and 20.
"The Treasury is having to pay an enormous deadweight cost to hedge this so-called refinancing risk," said Mark Capleton, a fixed income strategist at Bank of America.
Other factors also support the shift to shorter issuance.
Short-dated gilt yields more closely reflect Bank of England interest rates, which are falling, as well as weaker near-term economic conditions.
By contrast, long-dated gilt yields can be pushed higher by worries about long-term international trends in government borrowing and inflation - a concern when the United States looks set to run ever-larger budget deficits.
The BoE's sale of hundreds of billions of pounds of bonds bought under its quantitative easing programme - which Capleton said offset weaker pension fund demand for long-dated gilts in the 2010s - has boosted demand for short-dated debt too.
The BoE's QE reversal is draining cash from the financial system, creating demand for cash-like short-dated gilts.
SHIFT SHORTER
This financial year, conventional gilts with a maturity of over 15 years are on track to fall to about 20% of issuance, down from 22% in 2023/24 and almost 30% in much of the previous 10 years.
State Street said for 2025/26 the DMO should target 10-15% long-dated conventional gilt issuance, while Barclays modelled a 5 percentage point fall to 16%, which would be the lowest since 1990.
Former DMO chief executive Robert Stheeman told Reuters in March that the agency recognised the higher costs of selling long-dated gilts as demand dropped.
The DMO has pared back sales of inflation-linked bonds, which halved as a share of new issuance between 2017 and 2024, following cost concerns from a government budget watchdog.
However, demand at auctions for long-dated gilts has remained high and in October, the DMO nudged up its issuance plans for them.
Barclays' Islam said he did not think a 5 percentage-point fall in long-dated issuance would be a big shock to markets.
"If you want to send a message that the nature of supply in the UK is changing, you can be a little bit more bold. But whether they want to be bold? Debt management is an inherently cautious business," Islam said.
($1 = 0.7997 pounds)