Higher Capital Requisites In Basel III Rules Lead To Volatile Gilt Market In The UK

January 28
7:56 AM 2016

Government bond dealers in UK are observing market conditions as highly challenging. This is due to the increased regulations and cost of capita for funding their operations.

These factors have made the banks less interested in risking their own capital. The market scenario has been reflected from the minutes of a meeting held on Tuesday among market makers, investors, representatives from the Debt Management Office (DMO) and Treasury, reports Reuters.

Banks are reassessing their business models according to the regulations and based on geo-economic situations. The fact has been revealed by DMO through a report published Wednesday on an annual meeting between the British Finance Ministry and primary dealers known as Gilt- Edged Market Makers (GEMMs), according to news published in Yahoo Finance UK.

Regulatory burdens cause liquidity cuttings and push up transaction costs, particularly in the market for purchases or repos. The investors thus have narrated their woes in the meeting. They have also expressed concern over the level of investor participation at auctions, reports Bloomberg citing the meeting minutes as the source.

The meeting and related minutes appear days after the latest sign of weakness in UK sovereign debt sales. The auction held in January 20 has attracted the lowest demand in nearly seven years.

Eventually the auction has left investors and officials to brace for a possible uncovered sale. Notably mentioning, the DMO has witnessed last year the first resignation of a dealer since 2009.

Credit Suisse Group AG has resigned in October from its role as a GEMM, for both conventional and index-linked gilts. Many of the world's biggest banks are shrinking their bond-trading activities.

The situation arises due to compliance with regulations requiring higher capitals. The regulation has been imposed following financial crisis and eventually prices become more volatile for investors. Unlike in the UK, an auction for German 30 year bonds has failed to reach the sale goal on Wednesday.

Bank for International Settlements has been reported by the government bond dealers the new regulations act to push up costs of capital further. A poll of 40 banks in August and September has shown respondents expected costs to rise for moving towards Basel III rules.

Concerns of the UK investors have been echoed by the International Monetary Fund (IMF) on Wednesday. Risk insensitive regulation is making the repo market unprofitable and the pursuit of financial stability may go too far, predicts Andreas Jobst, Senior Economist while addressing a conference in Luxembourg.

Increased regulatory efforts originated from adoption of Basel III rules have become a rising concern for the dealers in the UK gilt market. Concerns of the investors have been reflected from a meeting held on Tuesday among the investors, dealers and regulators concerned. However, the risk sensitive regulation is making the repo market unprofitable and the pursuit of financial stability may go too far, predict the analysts.

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