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Floating the idea of Sonia-linked Gilts

By Burhan Khadbai
30 Jan 2020

During a recent market consultation, Gilt investors called on the UK Debt Management Office to issue floating rate notes linked to Sonia, the Bank of England’s recommended replacement for Libor. There are plenty of reasons why this is a good idea.

First, it would show how serious the UK is about the transition from Libor to Sonia. The Bank of England has repeatedly warned the market of the need to adopt the new benchmark. But what better way to hammer home this message than for the UK to issue a Sonia-linked FRN itself?

A DMO spokesperson told GlobalCapital that it “remains open to the introduction of new debt financing instruments” but that they would need to “meet value for money criteria” and “enjoy strong and sustained demand in the long-term”.

There should be no concern about demand. Investors, particularly UK bank treasuries, want Sonia-linked Gilts because their HQLA (high quality liquid asset) portfolios are benchmarked against the new risk-free rate.

The product would also provide a useful pricing reference for issuers to sell their own deals against, which would aid the development of the market.

Some Sonia FRNs are even trading tighter than their Libor counterparts so there is an argument it would be cost effective on a comparative basis (although it should be said that the UK has never issued a Libor-linked bond). But in any case cost should not be the UK's main objective.

The DMO argues that its core Gilt programme is the most stable and cost-effective way of raising finance. But it has strayed away from this view in the past with the issuance of a sukuk in 2014. A second sukuk will follow later this year. Like the sukuk, a UK Sonia FRN would be warmly welcomed.

By Burhan Khadbai
30 Jan 2020