Foreign investors buy record 38 bln pounds of UK government debt in December

By David Milliken LONDON, Jan 31 (Reuters) - Overseas investors increased their holdings of British government bonds by a record 38.3 billion pounds ($47.2 billion)in December, reversing a sell-off that followed former prime minister Liz Truss's badly received "mini-budget". However, the apparent surge in purchases - and the previous fall in holdings - may reflect the ripple effects of September and October's turmoil on British pension funds, rather than genuine swings in foreign appetite for British government debt. The jump in holdings reported by the Bank of England on Tuesday came after net reductions in gilt holdings by foreign investors in September, October and November, which totalled 38.1 billion pounds, the biggest drop since records began in 1982. Monthly falls in foreign investors' gilt holdings can reflect temporary drops when one bond matures before another is issued to replace it, rather than outright sales. But David Parkinson, sterling rates product manager at RBC Capital Markets, said the sales and December's rebound appeared to be driven by liability-driven investment (LDI) funds, which were at the centre of market turmoil following the mini-budget. Although British pension funds and life insurers are the main users of LDI funds which invest in gilts, the LDI funds themselves are typically domiciled in Ireland or Luxembourg, and so count as foreign investors. Almost 30% of Britain's 2.3 trillion pounds of gilts are held overseas.

"Rather than representing a wholesale ditching of gilts by genuine overseas investors, the data was probably picking up -with something of a lag - selling of gilts by pooled LDI funds," Parkinson said in a note to clients. "As the data started to reflect LDI re-hedging activity ... this likely accounts for a portion of the strong December number," he said. British pension funds and insurers are required to match their long-term liabilities with similar assets, which they achieve through the use of LDI funds. Long-dated gilts suffered record daily price falls in the days after the Sept. 23 mini-budget, which contained unfunded tax cuts that fuelled market concerns about inflation and fiscal irresponsibility. The BoE had to step in to halt a fire sale of assets by LDI funds, which were close to being insolvent, and ended up buying 19 billion pounds of long-dated and index-linked gilts, which it has since sold back to the market. Britain's Financial Conduct Authority estimates LDI funds sold at least 39 billion pounds of conventional and index-linked gilts between Sept. 30 and Oct. 21. ($1 = 0.8117 pounds) (Reporting by David Milliken; Editing by Arun Koyyur)