(Bloomberg) -- As broad selling took hold in UK markets for a fourth day, focus turned to the pound after it fell to the lowest level in over a year.
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Concern that the Labour government will struggle to keep the nation’s deficit in check amid higher borrowing costs pushed sterling down as much as 1% on Thursday to $1.2239. That’s the weakest level since November 2023.
The currency move followed a surge in gilt yields earlier this week to the highest levels in years. Investors have been irked by the government’s escalating debt burden and persistently high inflation for months, and when a global selloff gathered pace this week, UK assets quickly took the lead.
The speed of the moves has seen comparisons drawn to the fallout from Liz Truss’ ill-fated mini-budget in 2022, and the 1976 debt crisis that saw the UK ask the IMF for a bailout. It also prompted the Treasury’s chief secretary to try to reassure investors saying the gilt market is functioning in an “orderly way.”
“The worry is that investors have just lost faith in the UK as a place to put their assets,” said Eva Sun-Wai, a fund manager at M&G Investments, on Bloomberg Radio.
Sun-Wai said the pound falling while yields rise may be “a signal of capital flight” as normally higher rates make a currency more attractive. The move prompted jokes in the City, with Citigroup describing sterling as the “Great British Peso” — a reference to a more volatile emerging-market currency.
“The pound could remain the preferred pressure valve for anxious investors who worry about the outlook of their UK portfolios,” said Valentin Marinov, head of Credit Agricole’s Group-of-10 FX strategy in London.
The market rout eased on Thursday afternoon, with gilts and stocks erasing earlier losses and the pound trimming its drop to 0.5%. But activity in the options market suggests the currency turmoil may persist.
The cost of hedging the pound over one week jumped to the highest since the US presidential election. Risk reversals, a barometer of market positioning and sentiment, show traders are most bearish on the UK currency in two years.
Banks including Wells Fargo and Deutsche Bank said there’s room for sterling to drop further as investors unwind long positions and the BOE cuts interest rates. Hedge funds have been the predominant sellers of the pound over the past days, according to Barclays.