As the week gets underway the dust seems to be settling a little in the UK gilts markets after the 27-year highs for yields reached last week. But looking ahead, there are three upcoming dates in the economic calendar which could create more volatility in the coming weeks.
UK gilt yields have been on the move since June, not only on concerns over higher-than-expected inflation and weak economic growth but also worries over the level of UK debt and the government’s borrowing plans. The rally culminated in 30-year gilt yields rising to 5.7%, 10-year gilt yields hitting 4.7% and five-year gilt yields trading at 4.22%. For comparison, last year the same gilts yielded 4.5%, 3.77%, and 3.56% respectively, while during the same period the Bank of England cut rates from 5% to 4%.
The Chancellor’s decision to postpone the autumn budget to the end of November – about a month later than expected – and last week’s Cabinet reshuffle added to the move, as did wider concerns over the borrowing levels in G7 countries, including the US, Germany and France.
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In the meantime, Gilts yields have corrected down but the wider issues over the autumn budget, UK inflation and meagre growth remain in place.
Here are three key dates to look out for if you are invested in bonds
18 September: Bank of England rate-setting meeting
Before the summer, it seemed likely that the Bank of England would cut rates by 25 basis points, maybe as early as September. However, with the latest inflation reading coming in at 3.8%, significantly above the government’s target of 2%, quarterly GDP rising by only 0.3% and the August rate cut to 4%, it now seems more likely that the BoE will postpone its next rate cut until November. The BoE’s rate decisions tend to have a stronger impact on longer-dated gilts, particularly 10-year and 30-year notes, but the lack of clarity on the government’s borrowing plans between now and November will likely dampen declines across the spectrum of gilt yields.
17 September: Next Federal Reserve rate-setting meeting
The Federal Reserve will make its next rate decision a day before the BoE does. Although analysts expect US inflation data ahead of the Fed rate meeting to show that some goods prices have been impacted by US trade tariffs, other key indicators such as housing and energy costs will edge lower. Markets are pricing in a 25-basis points Fed rate cut in September as the Fed moves ahead of the UK along the rate cutting curve.
Gilt prices and yields closely follow US Treasuries price moves – there is a correlation of over 90% – which means that with the divergence between the UK and US rate trend between September and November we could see some transferred volatility in UK markets.
26 November: UK Autumn Budget
Expectations that the autumn budget may contain both higher taxes and more borrowing have been lifting medium- to longer-term gilt yields. Now that the budget has been pushed back as late as possible before becoming a de facto winter budget, markets, including stocks and currencies, remain increasingly nervous about what it will contain. The expectations of a combination of higher taxes and more government borrowing are likely to keep yield levels of UK debt at the higher end of the current range.
Against this backdrop, Schroders Wealth Management notes that the bond sell-off reflects growing concern over UK public finances and the additional yield investors now demand to hold longer-dated debt. In addition, research from the Barclays Business Prosperity Index is showing that around a half of UK businesses are postponing investment decisions until after the budget.
Looking at the fundamentals, the UK is not in danger of imminent default and while UK debt levels are higher, they are not outside of the range that is seen in other developed markets. In terms of valuations, long-dated gilts now look attractive, particularly attractive yields on 30-year gilts at between 5.48% and 5.7%. The yield is about 2.5% higher than the expected level of inflation, making it an attractive choice for buyers like pension funds, insurance businesses and more cautious clients, according to Schroders.
