BOE Expands Bond Buying Program Amid Historic Bond Rout To End “Fire Sale” And Halt Market “Dysfunction”

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Last week we cautioned readers that the market “calm” was set to end this coming Friday when the BOE’s bond buying program was coming to an end, while making it clear that there would be no actual end as the Bank of England is by now completely trapped, and any end to QE would spark a crash, and if anything the central bank would do more not less.

Well, just two days later we found out just how trapped the BOE has become, when early on Tuesday morning the Bank of England announced that it would widen the scope of its daily gilt purchase operations – boosting not shrinking the moral hazard that got us here – to include purchases of index-linked gilts – technically, it said it would “temporarily absorb selling of index-linked gilts in excess of market intermediation capacity” – as “a further backstop to restore orderly market conditions”, following yesterday’s epic bond rout which shouldn’t have happened, and yet it did.

The central bank, whose purchases have dried up as nobody actually wants to sell to it as long as it is in the market but the moment it steps away there is an insta-crisis, said it was prepared to buy up to £5bn a day in index-linked UK government bonds as it warned of “dysfunction” in the gilt market. Its new intervention marks the first time it has purchased index-linked debt as part of its bond-buying schemes.

As Bloomberg notes, the decision to buy index-linked securities is unusual for the central bank, which only bought conventional gilts during previous rounds of quantitative easing. The BOE said on Tuesday that it will allocate up to £5 billion ($5.51 billion) to conventional gilts and £5 billion to index-linked gilts at each remaining buyback.

The latest measures, which were announced just before the opening of markets in London, came just a day after the BoE unveiled a new short-term funding program that it hoped would act as a pressure release valve for pension schemes that have been caught up in a vicious circle after chancellor Kwasi Kwarteng’s September 23 “mini” Budget set off a historic sell-off in gilts.

“And I heard a voice in the midst of the four living creatures saying, “A [a]quart of wheat for a denarius, and three quarts of barley for a denarius; and do not harm the oil and the wine.” Revelation 6:6 

“Two interventions in 24 hours is pretty extraordinary,” said Sandra Holdsworth, UK head of rates at Aegon Asset Management, adding that the BoE’s steps showed how the problem in the pension industry was “much bigger than anyone thought a week ago.”

As we noted yesterday, the BoE’s emergency bond-buying scheme, which was launched on September 28, initially helped soothe jittery markets but selling picked up strongly on Monday when the US bond market was closed as analysts and investors worried about the program’s looming end date on Friday, just as we warned it would.

“The beginning of this week has seen a further significant repricing of UK government debt, particularly index-linked gilts. Dysfunction in this market, and the prospect of self-reinforcing ‘fire sale’ dynamics, pose a material risk to UK financial stability,” the bank said.

Inflation-linked gilts, which according to the FT is a market dominated by defined benefit pension schemes …

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