By JOHN SPIERS 05/05/2006
Opinions on the direction of the next move in UK interest rates seem to be changing. A few months ago the consensus was that weak economic growth and a subdued housing market would lead to a further reduction after the quarter point cut in July 2005. Now it looks as if an increase may be needed.
Anecdotal evidence suggests that the housing market in the South East has strengthened considerably in recent months and that is supported by the latest data from Halifax. This revealed a 2% rise in April, taking the annual rate of increase to 8%. This trend has been accompanied by a surge in transaction volumes, pointing to renewed consumer confidence.
Confidence in the Services sectors (notably in financial services) has also increased markedly according to the latest CIPS/RBS business activity index. The Bank of England’s next quarterly inflation report, due next Wednesday, will be scrutinised closely for clues. The official inflation rate has fallen to only 1.8% but for most people this is hard to equate with the reality of steeply rising energy prices, council taxes and other major items of expenditure. We suspect that for most of our clients the true rate of inflation is closer to 5%.
None of this is good news for bonds. Yields have climbed to over 5.1% in the USA but still fail to reflect fully the inflation risks in our view. Five year swap rates in the UK are also now over 5%. We would not be surprised to see base rates at that level by the end of the year, so those enthusiastic property purchasers either need to be fixing their mortgage rates or building in a safety margin for future rate rises.