UK interest rate cycle

Previous articles have looked at the Bank of England’s bank rate. For a brief recap, the chart below plots the level of the bank rate since 1901.

Bank of England Base Rate [1901-2016]

When growth in an economy is thought to be too low, interest rates may be reduced to increase consumption and investment. However, at a certain stage low interest rates may lead to inflation with over-investment in property and other assets. At this point, to limit inflation, interest rates may be raised.

This cycle of interest rates increasing and decreasing is roughly related to the economic cycle: low growth leads to lower interest rates, and high growth leads to higher interest rates.

When central banks are lowering interest rates this is often referred to as the easing phase of the interest rate cycle; when rates are being raised this is the tightening phase of the cycle.

For the purposes of the study here, rates are said to be in an easing phase if the previous rate change was down. They stay in this phase until a positive rate change occurs, at which point rates move into a tightening phase.

The following chart reproduces the first chart but overlays vertical bars to highlight the tightening phase of the interest rate cycle (i.e. periods when the bank rate is being increased). The periods without grey bars are therefore easing phases.

UK interest rate cycle [1901-2016]

The following table gives a summary of the length of time the base rate stayed in the respective phases.

Period Market Days Easing Tightening
1901-1969 17,995 70% 30%
1970-1999 7,590 59% 41%
2000-2016 3,994 74% 26%
1901-2016 29,579 68% 32%

Over the whole period rates stayed in an easing phase (68%) for twice as long as they did in a tightening phase (32%).

The following chart is similar to the above, but zooms into the shorter time period: 1970-2016.

UK interest rate cycle [1970-2016]

It can be seen that before 1988 monetary policy changed direction frequently (i.e. the average interest rate cycle was short). After 1988, monetary policy settled down and the interest rate cycle became much longer.

For example, in the five years, 1983-1988, there were seven full rate cycles (i.e. an easing phase followed by a tightening phase), the same number as occurred in the 28 years since 1988.

For reference, the following chart overlays the FTSE All-Share Index on the BoE base rate.

BoE base rate v FTSE All-Share Index [1970-2016]

It can be seen that the period of great credit expansion that occurred 1980-2000 was accompanied by an overall decline in interest rates from 17% to 5%.

The following chart (crudely) shows what happened to equities over this period during the discrete periods of interest rates being eased and tightened.

  • The green line plots the value of a portfolio that invested in the equity market only during the easing phase of interest rates.
  • The blue line plots the value of a portfolio that invested in the equity market only during the tightening phase of interest rates.

The red line plots a simple buy-and-hold market portfolio. All portfolio values start at 100.

Interest rate cycle and equities

By 2016 the Easing Portfolio had a value of 986, while the Tightening Portfolio a value of 228. Obviously some of this difference in performance is attributable to the fact that the Easing Portfolio was invested in the market for twice as long as the Tightening Portfolio.

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UK bank rate changes since 1694

A previous article looked at the history of the official bank rate since 1694.

Here we will analyse all the discrete changes made to the bank rate since 1694.

Since 1694 the Bank of England has made 828 changes to the bank rate. Changes to the bank rate today are recommended by the Monetary Policy Committee (MPC), which meets once a month to consider changes to the bank rate (more info on the MPC).

The following chart plots all the changes to the bank rate from 1694. The size of each respective change is shown on the Y-axis. (NB. the Y-axis is truncated at plus and minus 3 for legibility; in 1914 the rate did see changes of +4 and -4.)

BoE bank rate changes [1694-2016]

As can be seen, until the beginning of the 20th century the great majority of rate changes were +/- 0.5 and +/- 1. And also the balance of the size of positive and negative rate changes was roughly equal.

Towards the end of the 20th century the Bank started experimenting with larger and smaller increments of change. And the balance of rate changes also changed: periods of small negative changes would be interrupted by larger positive rate adjustments.

In 1982 the Bank began a cautious period of frequent rate reductions of just 0.125 (the smallest rate reduction up to this time). The last time the bank rate was reduced by such a small amount was in 1989.

The frequency distribution of size of rate changes is shown in the following chart.

Distribution of BoE bank rate changes [1694-2016]

As can be seen, the most common rate change has been a reduction of half a percentage point. (Since 1694 33% of all rate changes have been for -0.5.) After that the most frequent rate change was plus one percentage point.

The above chart supports the (well-known) observation that rates are reduced cautiously with small increments and increased with more aggressive, larger increments.

The following chart breaks this frequency distribution down by century.

Distribution of BoE bank rate changes (by century) [1694-2016]

The above chart supports the previous observation that, whereas in the 19th century the Bank restricted its changes to a narrow band of increments, in the 20th century the size of the rate changes were more dispersed.

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UK bank rate since 1694

There are many different interest rates in the UK but one of the most important is the official bank rate (sometimes also referred to as the Bank of England base rate). This is the rate at which the Bank of England lends to banks. It has a direct influence on interest rates in the domestic banking system and as such the bank rate is a reference level for the rates which the London clearing banks pay on deposits and charge on loans.

Changes to the bank rate are recommended by the Monetary Policy Committee (MPC), which meets once a month to consider changes to the bank rate (more info on the MPC).

Further information on the official bank rate can be found here at the BoE web site.

Over the years this interest rate has been referred to variously as the Bank Rate, Minimum Lending Rate, Minimum Band 1 Dealing Rate, Repo Rate and, today, the Official Bank Rate. But we can regard them all as essentially the same thing. And we can concatenate these rates over the years to create a continuous record of base rates from 1694.

For reference the rates for different periods are shown in the following table.

Period Rate used
1694 – 1972 Bank Rate
1972 – 1981 Minimum Lending Rate
1981 – 1986 Minimum Band 1 Dealing Rate
1997 – 2005 Repo Rate
2006 - Official Bank Rate

The following chart plots this continuous times series of base rate levels from 1694. [NB. The X-axis is not a uniform scale.]

BoE bank rate [1694-2016]

The following table gives some statistics by century on this bank rate data from 1694.

1700s 1800s 1900s 2000s All
Count 2 408 383 31 828
Mean 4.5 4.3 8.0 4.3 6.0
Standard Deviation 0.7 1.6 3.6 1.4 3.3
Median 4.5 4.0 7.5 4.8 5.0
Maximum 5.0 10.0 17.0 6.0 17.0
Minimum 4.0 2.0 2.0 0.5 0.5

The Count row gives the number of times the bank rate was changed in each respective century.

Until 1973 the average bank rate had been around 4%, but then shot up to levels not seen before – reaching a maximum of 17% in 1980.

Volatility (measured by standard deviation) of the bank rate also increased at the same time to levels not seen before.

The bank rate we have today, 0.5%, can be clearly seen to be unprecedented. Previously, the lowest rates seen had been 2% in the 18th and 19th centuries.

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FT30 Index 1935 – Where are they now?

The FT30 Index was started by the Financial Times on 1 July 1935. Today the most widely followed index is the FTSE 100, but for many years the FT30 (originally called the FT Ordinaries) was the measure everyone knew.

The table below lists the original companies in the FT30 Index in 1935 – a time when brokers wore bowler hats and share certificates were printed on something called paper. It’s interesting to see what became of the stalwarts of UK plc from over 60 years ago.

Company Notes
Associated Portland Cement The name was changed to Blue Circle Industries in 1978, and then left the index in 2001 when it was bought by Lafarge.
Austin Motor Left the index in 1947. In 1952 Austin merged with rival Morris Motors Limited to form The British Motor Corporation Limited (BMC). In 1966 BMC bought Jaguar and two years later merged with Leyland Motors Limited to form British Leyland Motor Corporation. In 1973 British Leyland produced the Austin-badged Allegro… [the story is too painful to continue].
Bass Left the index in 1947. In 1967 merged with Charrington United Breweries to form Bass Charrington, In 2000 its brewing operations were sold to Interbrew (which was then instructed by the Competition Commission to dispose parts to Coors), while the hotel and pub holdings were renamed Six Continents. In 2003 Six Continents was split into a pubs business (Mitchells & Butlers) and a hotels and soft drinks business (InterContinental Hotels Group).
Bolsover Colliery Left the index in 1947. The mines were acquired by the National Coal Board on nationalisation in 1947. Bolsover Colliery closed in 1993.
Callenders Cables & Construction Left the index in 1947. Merged with British Insulated Cables in 1945 to form British Insulated Callender’s Cables, which was renamed BICC Ltd in 1975. In 2000, having sold its cable operations, it renamed its construction business Balfour Beatty.
Coats (J & P) Left the index in 1959. Traded as Coats Patons Ltd after the takeover of Patons & Baldwins, then as Coats Viyella, finally as Coats plc. Finally taken over by Guinness Peat Group in 2004.
Courtaulds Demerged its chemical and textile interests in the 1980s, with the former eventually being bought by Akzo Nobel and the latter by Sara Lee. Left the index in 1998.
Distillers Purchased by Guinness in the infamous bid battle of 1986 when it left the index.
Dorman Long Left the index in 1947. Joined British Steel following nationalisation in 1967.
Dunlop Rubber Left the index in 1983, and was then in 1985 bought by BTR (which became Invensys).
Electrical & Musical Industries In 1971 changed its name to EMI and later that year merged with THORN Electrical Industries to form Thorn EMI but then de-merged in 1996. In 2007 EMI Group plc was taken over by Terra Firma Capital Partners but following financial difficulties ownership passed to Citigroup in 2011.
Fine Spinners and Doublers Fell out of the index in 1938, and was later bought by Courtaulds in 1963.
General Electric General Electric was re-named Marconi in 1999, suffered disastrous losses in the dot-com crash and was bought by Ericsson in 2006.
Guest Keen & Nettlefolds Guest Keen is better known as GKN, and is still in the FT30 today.
Harrods Left the index in 1959 when it was bought by House of Fraser, and then later by Mohamed Al Fayed.
Hawker Siddeley Left the index in 1991, and was then bought in 1992 by BTR (which became Invensys).
Imperial Chemical Industries Spun out Zeneca in 1993, and the rump (called ICI) was sold to Akzo Nobel in 2007
Imperial Tobacco Still going strong.
International Tea Co Stores Fell out of the index in 1947, was acquired by BAT Industries in 1972 and ended up as Somerfield in 1994.
London Brick Replaced in the index by Hanson which bought it in 1984.
Murex Left the index in 1967 due to “poor share performance”. Acquired by BOC Group in 1967.
Patons & Baldwins Left the index in 1960 when bought by J&P Coats.
Pinchin Johnson & Associates Left the index in 1960 when bought by Courtaulds.
Rolls-Royce In 1971 RR was taken into state ownership, the motor car business was floated separately in 1973, and RR returned to the private sector in 1987.
Tate & Lyle Still going strong, although its sugar refining and golden syrup business was sold to American Sugar Refining in 2010.
Turner & Newall Left the index in 1982. The company was heavily involved with asbestos production, so it is not surprising that things ended badly. In 1998 the business was acquired by Federal-Mogul, which soon after filed for Chapter 11 protection as a result of asbestos claims.
United Steel Left the index in 1951. The iron and steel works on nationalisation became part of British Steel Corporation (and now part of Tata Steel); while the mining interests passed to the National Coal Board (now closed).
Vickers Left the index in 1986. Bought by Rolls-Royce in 1999.
Watney Combe & Reid Left the index in 1972 when it was bought by Grand Metropolitan, which itself became part of Diageo.
Woolworth (FW) Left the index in 1971. Bought by the forerunner of Kingfisher in 1982, and then de-merged and re-listed in 2001. But the remaining Woolworth’s stores all closed by January 2009.

Of the 30 companies only four exist today as listed companies: GKN, Imperial Tobacco, Rolls-Royce and Tate & Lyle. All of which today are in the FTSE 100 Index, except Tate & Lyle which bounces in and out of the index quite frequently, and is currently out.

Only GKN and Tate & Lyle are in today’s FT30 Index.

The star performer from the original line-up has been Imperial Tobacco.

It’s interesting to note the complete lack of representation in the 1935 FT30 of banks, telecom, oil or drug companies - the four sectors that dominate the UK market today.


 Extract taken from the newly published UK Stock Market Almanac 2016.

Order your copy now!

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Will 2015 be the first 5th year of decade to end down since 1945?

Since 1875 the UK market has seen negative annual returns only twice in the fifth year of the decade. As can be seen in the accompanying chart, since 1875 the down years were 1915 and 1945 (and 1945 was down only 0.6%).

Annual returns for 5th year of decade [1801-2015]

As of the close 24th December the FTSE All-Share index was at 3449.5, (2.4% below its 2014 close of 3532.7).

The market has three days to climb above 3532.7 and end the year in positive territory.

Update

The answer to the heading is: yes. The FTSE All-Share index ended 2015 at 3447.46: down 2.41% on the year.

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Monthly seasonality of oil

This article looks at the monthly seasonality in the price of crude oil (West Texas Intermediate, WTI).

From 1986

The following chart shows the average price change by month of WTI for the period 1986-2014. For example, since 1986 the price of WTI has increased on average 0.5% in January. 

Crude Oil (WTI) Monthly return average [1986-2014]

From the chart it can be seen that, historically, March, April and August have been strong months for WTI, while October and November have been weak.

Further, we can divide the year roughly into two parts:

  1. March-September when WTI is strong, and
  2. October- February when the WTI price has relatively been weak

The following chart plots the proportion of monthly returns that were positive over the same period. For example, since 1986 48% of the WTI price changes in January were positive.

Crude Oil (WTI) Monthly return positive [1986-2014]

The pattern here largely repeats that seen for the average returns: the strong months are March, April (with July also being strong), and the weak months are October and November.

From 2000

To assess the persistency of the behaviour, the following chart plots the average price change by month of WTI for the period 2000-2014 (i.e. this is similar to the first chart above, but the starting point is 2000 instead of 1986). . 

Crude Oil (WTI) Monthly return average [2000-2014]

Roughly, the two-part nature of the year can still be seen in the monthly performance: the WTI price is relatively strong March-August, but the now weak part of the year starts in September, through to December.

The big change in recent years can be seen in the strength of the WTI price in February: since year 2000 WTI has an average price change of +5.4%.

For completeness, the following chart plots the proportion of monthly returns that were positive over the same period.

Crude Oil (WTI) Monthly return positive [2000-2014]


 

Further articles on oil.

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