The decision of the Office of National Statistics (ONS) to leave the calculation methodology of the retail price index (RPI) unchanged has seen bond prices soar and also given a boost to utilities. The ONS said: "The advantages continuity support continuing with the existing methodology",
Shares in the utility sector were lifted across the board on the RPI announcement. Martin Brough, analyst at Deutsche Bank, said: "In theory this could be worth perhaps 10 per cent for equity values of regulated companies, but in practice less if real allowed returns are cut in the long term". Mr Brough thinks the move is positive for
Regulated utilities have revenues (and asset values) linked to RPI, so the higher inflation under the existing methodology will allow both revenues and regulatory asset bases to rise more quickly. But it's not all good news; utility companies also have some debt indexed to RPI, and regulators may limit the returns that utilities can achieve if inflation gets too high. This will be of particular interest to water company investors as that sector moves towards price reviews next year.
The bond market also got a boost from the announcement, with yields on index-linked gilts, which use the RPI measure to calculate dividends, rallying by more than 33 basis points for the benchmark 2022 index-linked gilts. Some index-linked gilt yields are now at their lowest level since data first started to be collected, and it's debateable whether the news will have much long-term effect as real yields are still negative after inflation is taken into account. This also has the handy side-effect of keeping the government's long-term interest rates low. If there is going to be a significant threat to the gilt market this year, it is more likely to come from a combination of worsening government finances and a rotation into equities, than from technical changes to how inflation is calculated.
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