Having read through the Bank of England’s July MPC minutes yesterday, the more I think about it the more I don’t see a rate cut in August either. UK interest rates are already at a historic low of 0.5%, and we know Mark Carney is not a fan of the negative. With so little room for manoeuvre on rates, we think the Bank of England has better options elsewhere, and that it’s far more likely to use these in 3 weeks time.

The UK’s banks are heavily depressed, yet they are wholly necessary for growth. Banks have to be encouraged to lend, and lowering interest rates is one way of doing this – it makes borrowing cheaper, so people want to borrow more, but it doesn’t necessarily encourage lenders to lend because the lower rates go, the tighter their margins are squeezed. Low interest rates impact banks’ profitability directly. So a lower interest rates strategy effectively tasks banks with re-igniting the economy and while being penalised for doing so. It’s pretty clear that lower interest rates are a counterproductive way to incentivise lenders.

A far better option for the Bank of England in this sense is an expansion of QE and/or the Funding for Lending Scheme (FLS), which gives funding to lenders the amount of and interest on which is linked to their lending performance. So if a bank lends a lot, it’ll receive more funds at a lower price. The FLS does not impact banks’ profit margins in the way low interest rates do – in fact, it’s better for them. While bank stocks will no doubt react most positively (again) if there’s simply no action in August, something that is still a possibility given the fact that we’ll still have little evidence of the supposedly negative impact of Brexit, there could be considerable share price gains in the sector if the BoE decides against a rate cut and concentrates on QE and the FLS instead.

This may be a lesson in egg sucking, but it really is important: Investors profit by buying when prices are low and then selling when they’re high. Not since the 2008 crash has there been such a well defined opportunity to get a favourable entry point. Once markets get wind of just how potentially dangerous an August UK interest rate cut is, you can expect shares in the UK’s banks to start pricing it in. We’re going to be watching every move for our clients, so they’re ready to act before the wider market. You can be a part of this too – simply sign up to trial our research for two weeks.

Have a great weekend!

Augustin Eden, Analyst (15 Jul)