Morgan Stanley Sticks With Hawkish BOE Call on Soft Brexit Hopes

(Bloomberg) — Morgan Stanley (NYSE:) is keeping the faith in an August increase in U.K. interest rates.

The market is underestimating the Bank of England’s potential to be hawkish while pricing in exaggerated Brexit risks, according to the U.S. bank. Morgan Stanley strategists predict the BOE will raise rates in August, followed by further hikes in May and November 2019 once Brexit has been navigated. It recommends that investors position themselves for the prospect by placing bets for a steepening of the two- to five-year gilt curve.

“There’s an under-appreciation of the hawkishness implied by the Monetary Policy Committee’s framework,” Morgan Stanley economist Jacob Nell and strategist Shreya Chander wrote in a research note. “We expect rates to drift higher over 2018, as data deterioration into the Brexit endgame keeps the MPC on hold after August.”

Investors have slashed bets on an August move by the BOE to just over 50 percent, after the central bank seemed in no hurry to tighten policy as it stayed on hold last week. Chander had written in a note published in March that she was waiting for a better opportunity to enter so-called steepeners in gilts as the “trade for 2018.”

Morgan Stanley is relatively optimistic on Britain’s exit from the European Union, putting the probability of a so-called soft Brexit as high as 75 percent. The U.K. has moved closer to a pragmatic position, while it now looks like a majority in Parliament could block a hard Brexit, the strategists said. The House of Lords has issued 14 amendments so far to Prime Minister Theresa May’s flagship Brexit legislation.

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