Issuance of sterling-denominated inflation-linked bonds will at least double in 2003, say London-based bankers, analysts and investors. Inflation-linked bonds have been relatively uncommon in the sterling market, but pent-up demand from pension funds and institutional investors is fueling increased interest from corporate and government issuers in the asset class, says Mark Capleton, bond strategist at Barclays Capital in London. As of last week, there had been roughly £1.5 billion in inflation-linked bonds issued this year and Capleton expects to see £3 billion plus next year--a conservative estimate. Barclays Capital is aggressively marketing inflation-linked bonds to its clients.
Pension funds seeking to better match their assets and liabilities are repositioning their portfolios from equities into bonds and inflation-linked issues are an excellent means to achieve this match. However, until recently the sterling market for this product has been relatively small. "It's true to say [the inflation-linked] market has been largely ignored by most issuers," says Nick Medd, head of debt capital markets at HSBC in London. Going forward, inflation-linked bonds will shed their obscurity.
Medd and others agree that corporate issuers--especially retailers and utilities--will issue more inflation-linkers as these types of companies have revenues linked to inflation. "Corporates are used to looking at the fixed- or floating-rate interest-rate swaps. They aren't looking at the [retail price inflation] swap market, which is becoming more liquid," says Mark Talbot, head of global fixed income at State Street global Advisors. State Street already has a sterling inflation-linked product. Medd says corporates will use linkers as part of their funding mix permitting them to maximize their investor base, as long as inflation expectations remain subdued treasurers will be encouraged to use this funding option. HSBC is the top market maker in sterling inflation-linked bonds and will be adding more resources to this business and its euro inflation-linked effort.
Tim Webb, head of credit investment process at Barclays Global Investors in London, says he expects to see new issuance from the public finance initiative sector to fund infrastructure projects, such as hospitals and railways, for example. Barclays is in the process of launching a new fund for institutional clients, which features inflation-linkers.
The bond's coupons are set in the same manner as TIPS in the U.S.: the rate of inflation is added to a nominal coupon. The Bank of England has recently stated that it anticipates inflation will remain below 2.5% for the next two years.