Blain’s Morning Porridge, 16^th January 2024: Succession at the UK’s DMO – We need a highly-skilled Bond Technocrat for the Most Important job in Finance!

“Just because it’s a bad job doesn’t mean I should to do it badly.”

The well-respected head of the UK’s Debt Management Office, Sir Robert Stheeman, retires this year. His successor will need tact, diplomacy and technical experience to maintain the DMO’s reputation for handling the Gilt Market. Continuity is paramount, and one candidate stands out for the role.

DMO Succession – The need for Continuity and Competence

If you want one reason for the UK’s dismal performance under about every single metric there is of a successful modern economy, it’s the frequency by which cabinet ministers are bounced around from department to department. They have zero mastery of their role. I read recently there have been 26 ministers of housing over the last 25 years – it’s no wonder there are simply not enough homes to go round. Experience and expertise around the brief is absolutely essential for success.

Fortunately, the UK Gilts market has been one bastion of stability and delivery in our otherwise uncertain UK.

Later this year one of the most important people in UK finance will take his well-earned retirement. You might never have heard of him, but his guidance and management has been absolutely critical to the stability of the UK economy. Sir Robert Stheeman, Chief Executive of the UK’s Debt Management Office (DMO) isn’t keen on publicity or praise, but under his guidance the UK’s Gilt Market has weathered the last 20 years of market ructions, politics, inflation and rates. (He does have a passing fondness for a good glass of wine.)

During his period in command of the DMO, he’s raised over £3 trillion from the global bond markets to finance the UK economy and growth! $3 trillion is a seriously grown up amount. He has succeeded because the key global investors, traders and bankers around the globe respect him as the ultimate safe pair of hands.

Sir Robert is the proverbial duck in a storm – always calm and unsurprised, while paddling furiously below the surface to maintain the 340-year stability of the Gilt market. (The first Gilt (so called because it had a gilt edge on the paper bond), was for £1.2mm and issued in 1694 to finance war with France. Well… what else did we need money for back then?)

He is one of the very few City grandees to have received the accolade of a knighthood since the GFC in 2008. I’ve met politicians who praise him, treasury officials who are prepared to acknowledge he’s superb at his job, and I don’t know many financiers who do not respect and admire him. A few  have criticised the DMO for issuing too much inflation linked paper – but it received a fair price for that embedded option when they sold these deals.

But I come not to praise Sir Robert – but to ensure there is a smooth transition and continuity of purpose when he retires.

The UK is in a period of acute political, economic and “questioning our relevance” entropy – many believe the country has been fatally weakened by the last 15 years of political dither and distractions. It’s absolutely critical there is a smooth transition and an undisturbed Gilts market to minimise any shocks or surprises as we cope with an expected change in government later this year, fight to maintain our position in global trade, and the relevance of the UK within the evolving global economy comes under increasing scrutiny.

Managing the DMO is a complex task. It requires a unique mix of top-level diplomacy and market smarts. The core function is to ensure the UK can meet and finance its financial obligations smoothly, transparently and cost effectively. It runs the primary issue of Gilts and structures the national debt to achieve the optimal mix of long and short term debt. The Chief Executive is the senior advisor to the UK Chancellor on Gilts and manages multiple relationships with stakeholders, which includes the market, market makers, investors, traders and the panoply of the financial commentariat.

Unlike The Governor of the Bank of England, who responds to economic events through monetary levers – interest rates, the Chief Executive of the DMO is proactively financing the nation, making real-time decisions on the term structure of debt, financing and refinancing options, and how to manage costs relative to what the market is prepared to lend. Its complex and requires a firm grip and feel for what the market is thinking, Keeping the Gilt Market open and ensuring demand for its issuance is a highly proactive rather than reactive role. There is no other role quite like it.

You need an experienced capital markets financier at the helm of what is one of the most important roles in UK finance. Who will replace Sir Robert? Applications for the role of DMC Chief Executive closed on Jan 10^th. Successful candidates will then be shortlisted – a process underway now.

A sustainable Bond Market is one of three critical elements of any successful economy – alongside a stable Currency and Political competency. Put these three things together – and the economy generally tends to work. Government relies on the DMO to engender bond stability, and be able to manage and fund the nation to growth and prosperity. However, if any leg of that Virtuous Sovereign Trinity breaks – then inevitable disaster will follow. The UK came perilously close to such an even in September 2022 when Liz Truss broke confidence in gilts, trigger the LDI crisis. The DMO was a critical part of the swift rescue put together with the Bank of England reopening the buying window.

Gilts are evolving. Recently Sir Robert has been on the wires, quite rightly raising the question of allowing non-banks are greater role in the primary distribution of Gilts. He’s well aware that government bond trading is no longer a lucrative source of earnings for the investment banks following changes to the capital rules following the 2008 Global Financial crisis. He’s done well to keep them interested and is now seeking to ensure the global financing community remains as reliable. He was recently quoted on BBerg saying: “Traditionally, risk capital and position taking has always come from the banking sector. In the future it will probably come from banking, but may not be exclusively.”

Although UK Premier Rishi Sunak is hinting at the autumn, the current political betting suggests May 2024 as the most likely date for the General election – so the sooner a decision on Sir Robert’s replacement the better to ensure continuity and transition stability. The role of DMO head is a civil-service job. It should not be a political appointment. The civil service exists outside of politics and is there to serve the government of the day – whoever that is.

Its critical we have a smooth transition of power within the DMO. The next Chief Executive will have to reassure markets they are a safe pair of hands is on the tiller, able to cope with whatever the vagaries of markets and outlook. They will also have to show they understand Government Bonds. Moreover, we need long-term thinking on how the UK funds itself in the changing global economy.

Were the position to be “politized” in any way, for instance should a politically linked or favoured external candidate be imposed into the role, the potential instability that could trigger in Gilts could be considerable.  It might not be a short-term spike, like the Liz Truss LDI issue, but become a longer-term issue of continuity and trust. Likewise it not be a sinecure for a semi-retired senior banker who has been polishing the handles of the some big brass door for decades.

The risk is someone who doesn’t understand the changing markets for bond funding, the evolvution of funds becoming direct lenders to government, and who doesn’t have the background or understanding of the “mood” in sovereign financing is dropped into the role. I am told a number of senior bankers fancy the role – I suspect they would be disasters.

The role requires a professional competent bond-technocrat with the wisdom of Solomon and lashings of charm. Fortunately, there is a person well placed to ensure a smooth transition and continuity is available.

Jessica Pulay is Co-Head Policy and Markets at the DMO. She has a market reputation as strong as Sir Robert’s across markets. She had long stints at the EBRD and Goldman Sachs on her CV (where she was a senior Soveriegn Bond originator and banker). She understands how markets, and specifically the government bond markets work, and how to persuade investors to put their money down. (I know how good she is – she beat me repeatedly in the early 1990s when we were young capital market bankers competing for mandates.)

Ms Pulay would be an admirable appointment addressing the problem of smooth transition, continuity and stability the new CE of the DMO needs to bring to the role. Not for one moment would I suggest that diversity or gender should be a factor in a decision of this magnitude, but the fact the most highly qualified applicant for the job is a highly compentent and experienced woman will be a great signal that nothing is out of reach in the City (which remains overly Pale, Male and Stale… Not me of course!)

Persuading the market its business as usual when the Government is recycled later this year, while demonstrating the value the DMO brings to the cost of debt, are immediate problems. The challenges for the DMO in the years ahead will be even more significant. The UK’s place in the World is under pressure. Brexit has weakened our soft-power. Attracting investors to fund Gilts as the UK’s relevance is under stress will be challenging. Its critical we appoint the right person today to ensure it happens – in my book, that’s Jessica.

Meanwhile…

There are policy options the UK DMO could consider in the composition of its debt. Nearly 25% of Gilt issuance is inflation linked – targeted to suit the investment requirements of UK liability managers like pension and insurance funds. Should the DMO and the Gilts market be providing that optionality to investors? The 2023 spike in inflation pushed the cost of servicing these linkers much higher. (That was partially balanced by nearly 30% of outstanding gilts being issued at effectively zero rates to finance pandemic Covid recovery.)

Another issue is QT (Quantitative Tightening) requiring the Bank of England to sell the £743 bln of gilts it currently holds. Why? To sell means The BOE will be selling at a loss. Why not just hold to maturity, or better still let the Treasury retire them by way of my “Zonk” accounting trick?

When the UK Treasury issued Gilts for the Bank of England to buy under QE following the GFC the effect was to pump cash into other financial assets. That means the inflation that money-creation spawned is effectively already in the market. If Treasury was to simply give The Bank a coin denominated as a £750 bln “Zonk” and write off the gilts, then the UK’s debt to GDP would fall to 70% and it would be non-inflationary! (It’s a double entry on the national accounts, a liability on Treasury and an asset on The Bank.)

The Zonk will be utterly illiquid, and become a display item in The Bank’s rather excellent Museum! (And I believe its been quietly done before – hence the fabled £1 million pound notes.)

Out of time, and back to the day job

Bill Blain

Author of the Morning Porridge, Market Strategist

Shard Capital and Bowline Capital Advisors