Double secret QE | FT Alphaville

Double secret QE

The Bank of England has just decided to extend its programme of quantitative easing by £50bn.

It’s also widened the range of gilts it is buying back from the market to include bonds beyond 20 years in maturity — something it had previously avoided given their general illiquidity — and has made a rather interesting and related agreement with the UK’s Debt Management Office.

From the bank’s joint statement with the DMO:


The Bank of England and the Debt Management Office (DMO) have agreed that the Bank will make available to the DMO a significant amount of the gilts purchased via the Asset Purchase Facility (APF) for on-lending to the market through the DMO’s normal repo market activity. The DMO may repo these gilts to its existing repo counterparties in accordance with its current terms and legal agreements, the detail of which will be unaffected by this arrangement. The amount available will be at least 10% of the APF’s holdings of each stock, and more where the APF’s holding is greater than 50% of the free float. In addition, the Bank will be prepared to make the APF’s gilts available for use in the DMO’s Standing Repo Facility and in any relevant DMO Special Facility in specific stocks in accordance with the relevant terms and conditions.

The purpose of this arrangement is to relieve any undesirable frictions in the functioning of the market in specific gilts arising from the Bank’s purchases: the Bank stated in its Market Notice of 5 March 2009 that it would investigate lending gilts acquired by the APF. The DMO will lend the gilts on a short-term basis only, for a term of up to one-week. In return for the loan of APF gilts, the DMO will deliver to the Bank UK government securities of equivalent value, so that the APF’s holdings of UK government securities are unaffected. There will be no net impact on the DMO’s cash management. This arrangement will be in place from 7 August 2009.

The Bank will publish the daily average aggregate value of gilts lent by the APF to the DMO during each calendar quarter, on the second Wednesday after the end of the quarter at 10am.

The Bank and the DMO will keep this arrangement under review.

Ok, it’s not quite double secret quantitative easing, but it is aimed at boosting liquidity in the gilt repo market.

As a reminder, the repo market essentially involves the sale and repurchasing of bonds or other financial instruments (‘repo’ being short for repurchase), where one party agrees to sell an asset to another party, with a formal agreement to eventually buy-back equivalent securities.

There’s a good discussion of the market available here at the BoE’s website, but suffice to say it’s a pretty important form of short-term financing for many market-makers.

Since the BoE began QEasing, however, there’s been a certain degree of tightness in the gilt — and by extension — repo market.

Here’s a good table, with some comment, from Monument Securities economist Marc Ostwald, showing just how illiquid some gilt stocks actually are now:

Marc Ostwald - Gilt stocks

Related links:
Fed to shake up repo markets in wake of Lehman Bros failure – FT
QE in pics – FT Alphaville