Monthly Gilt Supply: Upside Risks to Supply in 24/25

Summary

• We estimate gilt issuance ahead for the year 23/24 and for 24/25.
• Despite undershoots in PSNB in 23/24 vs OBR estimates, our analysis suggests upside risk to UK supply ahead from:
  • Downside risk to OBR growth estimates.
  • Spring budget and likelihood of 2024 election.
  • High 2024 maturities.
• The January 2024 outturn will be key to understanding how much borrowing requirement has undershot in the 23/24 fiscal year.
• We estimate that in 2024, UK sovereign duration supply will increase by proportionally more than most EGBs (less than in Italy).
• A new 7Y benchmark is scheduled for the end of February. We estimate a new 5Y in March, a new 15Y in June, new 10Y and 30Y in September or July, and a new 20Y in November.

Market Implications

• While we see value in GBP rates versus EUR, on an economic and monetary basis, the outlook for duration supply picture does not suggest relative gilt strength.

The UK Fiscal Picture

UK growth is expected to stay subdued for the next few years, which could limit receipt growth. Despite this, there could yet be downside risk to the OBR’s outlook, which currently sits at the higher end of other forecasters (Chart 1).

For net issuance, our current projection suggests a smaller CGNCR (central government net cash requirement; the cash deficit, which the DMO issues against) in the FY ending Mar25 than in the one ending Mar24 (Chart 2).

A positive factor for government finance should be the decline in interest payments now that RPI inflation is slowing. However, both net and gross DMO issuance is likely to be higher than in the YE Mar24 on account of higher maturities, and the lack of carried over financing (which accounted for £25bn in 2023/24).

The March Spring budget poses a modest upside risk to the issuance requirement, but we expect at this stage anything offered (likely by way of tax cuts) will be relatively small. There is growing expectation for a 2024 election. Current polling suggests this would bring a change of government (Labour majority). It is early yet, but such an outcome would likely drive a more expansive spending policy, despite the Labour leader, Sir Keir Starmer, reassuring of continued fiscal prudence.

Chart 1: estimates of growth, blue bar = OBR, orange = IMF, grey = BoE, yellow = analyst consensus; Chart 2: UK CGNCR: blue bars = actual, light blue bars = DMO estimate, orange bars = Macro Hive forecast.

Current progress in PSNB (public sector net borrowing; the accounting deficit that OBR cares about) against the OBR’s forecasts for PSNB suggests an undershoot vs the November estimate (Chart 3). But the size of January’s surplus (released 21 February) will be a key driver of the full year (it is the month when income tax receipts are highest), so we hold off on strong conclusions until then.

Chart 3: YTD PSNB, orange dotted line = OBR April 2023 estimate, blue dotted line = OBR November 2023 estimate, black line = actual.

Expectations for DMO Issuance

Our expectation for 24/25 CGNCR (£142bn) sits slightly above that of the DMO (£137bn). Combining with maturities and an assumption of no financing carry-over, and no change in net-bill issuance, we pencil in an expectation of £284bn in gross issuance for 2024/25. This would constitute a £50bn rise on 23/24, largely on account of higher maturing debt and lack of financing carryover.

Chart 4: Issuance by bond maturity: red = ultra long, orange = long bond, dark blue = medium bond, light blue = short bond, grey = inflation linked bonds, black line = sum, dotted black line = Macro Hive estimate.

Chart 5: Net duration issuance: blue = bond supply, orange = coupon effect, yellow = QE/QT effect, black line = sum, dotted black line = Macro Hive estimate.

This leaves the UK duration supply in the calendar year of 2024 looking increasingly net-positive compared with much of Europe (Chart 7). A number of factors exacerbate this:

1. The BoE balance sheet winddown contributes proportionally far more to UK duration supply (c.29%) than ECB balance sheet winddown (13-25% depending on country).
2. Deficit is a far higher driver of isssuance requirement (51% requirement in UK, 29-47% in EZ-4).

This suggests that while there is greater room for a reduction in duration supply if the central bank policy changes (a tail risk), net issuance of gilts remains strong versus other countries.

So while on an economic basis, UK rates look comparatively attractive to EUR ones (as per our 2Y EUR IRS payer vs GBP receiver), the supply picture is not particularly positive for gilts.

Chart 6: blue line = net duration Germany, orange line = Italy, grey line = France, yellow line = Spain, black line = UK.

Estimating New Benchmarks This Year

For now, the only imminent flag for new benchmark is the 7Y, which the DMO has already flagged will have a new benchmark (Oct31) syndicated on 28 February.

Further out, a new 5Y looks to be due in March, a new 15Y will be due in June, new 10Y and 30Y in August (more likely either September or July to avoid summer lull), and a new 20Y in November.

Chart 7: amount outstanding in UK benchmark bonds (dark blue bar = outstanding, light blue bar = estimated headroom in benchmark).

Henry Occleston is a Strategist, who focuses on European markets. Formerly, he worked in European credit and rates strategy at Mizuho Bank, and market strategy at Lloyds Bank.

(The commentary contained in the above article does not constitute an offer or a solicitation, or a recommendation to implement or liquidate an investment or to carry out any other transaction. It should not be used as a basis for any investment decision or other decision. Any investment decision should be based on appropriate professional advice specific to your needs.)