Halister News

(Bloomberg) -- GBP inflation volatility may be rekindled by U.K.’s vote to leave the European Union as lagged effect of the currency’s sharp decline will push up prices, Bloomberg strategist Tanvir Sandhu writes.

• Levels in the inflation markets are low on a historical basis and reflect little inflation risk premia
• Sharp move lower in GBP should boost inflation via imported prices
  • GBP TWI collapse during 2008 financial crisis boosted price pressures, chart here
• BOE may signal that it could overlook a period of above target inflation following steep declines in the currency
• The premium demanded to bet RPI will rise to 2% in 2 years is currently at 171bps, compared with 472bps hit in July 2010, the highest level since Bloomberg started compiling data, see chart here vs TWI
• GBP 5Y5Y inflation swap rate is at 3.06% vs YTD low of 2.95% on May 16 while EUR 5y5y at 1.3%, lowest on record

SWAPTIONS

• Gilt yields drop below 1% as rate cuts and QE expectations overshadow risks to overseas demand, U.K. credit rating downgrades and discounting of potentially higher inflation
• Term structure of 10y tenor GBP swaption volatility moves more negative for 2m and 3m expiries vs 1y, see chart here
• GBP 3m10y implied vol vs USD has now hit the highest level since at least 2011; with the absolute GBP rate vol +23bp/annual since referendum vote at 103bp/annual, highest since Bernanke “taper tantrum”, see chart here

• NOTE: Tanvir Sandhu is an interest-rate and derivatives strategist who writes for First Word. The observations he makes are his own and are not intended as investment advice.