Monday, January 12, 2009

UK Sovereign Debt & Bonds Auctions

The massive UK Government debt forecast by Brown and Darling in their recent budget and pre-budget reports is to be largely funded by the sale of UK bonds.

Essentially these are promises that the UK will pay back the money spent on buying the bonds, with an additional yield paid when the bond matures after a period of time, usually between 10 and 30 years.

Traditionally, sovereign debt, especially amongst mature economy developed world countries, has been considered some of the safest debt to own as it is very unlikely that a politically and economically stable country is going to default.

However, with so many countries now looking to fund their debt in this way, there is a possibility that not everyone will be able to sell their bonds at the price they wish.

The UK has already increased their yields in order to sell £2bn of bonds last week.

Worse still, an auction of German bonds, typically considered the most liquidable assets, on Wednesday saw the Germans sell only 87% of the bonds that were released, earning 5.2bn Euro instead of the 6bn they had been predicting.

With the UK looking to raise £146bn in this way this year alone, we must be prepared for the moment when the market decides that it doesn’t want ‘our’ debt, and government must ensure that the cash flow is in place so that we don’t have to cut 13% or more from budgets in a nightmare scenario.

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