UK 10-Year Yields Hit Highest Since 2008 as Market Rout Deepens
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UK 10-Year Yields Hit Highest Since 2008 as Market Rout Deepens
Greg Ritchie and James Hirai
6 min read
(Bloomberg) -- UK markets tumbled, pushing bond yields to the highest in more than a decade, as jitters over persistent inflationary pressures sparked unnerving comparisons with the 2022 gilt crisis.
Benchmark 10-year yields jumped as much as 14 basis points to 4.82%, the highest since August 2008. The pound fell against all major currencies, slumping more than 1% versus the dollar, while UK stocks fell.
UK borrowing costs have already soared in recent days, pushing up 30-year debt costs to the highest since 1998. While the latest increases don’t mirror the speed of those seen two years ago when Liz Truss’s disastrous mini-budget prompted a buyers’ strike, investors are nervous and the market moves risk complicating the calculus for the government as it looks to finance its spending plans.
Read: UK Market Rout Stokes Memories of 2022 Crisis, Analysts Say
The inflation outlook has prompted traders to pull back their expectations for the Bank of England to cut interest rates this year. That is taking place as markets weigh the impact of potential tariffs from US President-elect Donald Trump on prices, leading yields to rise globally.
“This isn’t a healthy move,” said Megum Muhic, a strategist at RBC. “General concerns surrounding debt sustainability, resurgence of inflation and potentially inflationary Trump policies are all contributing to the narrative.”
The price action on Wednesday, which lacked any clear catalyst, is particularly unsettling for traders because the rise in UK rates was accompanied by a slump in the pound. Typically, higher yields boost the appeal of a currency, so a coordinated move lower suggests that investors are revisiting the broader case for investing in the UK.
The pound fell as much as 1.3% to $1.2321, the lowest since April. Meanwhile, UK shares tumbled, with the FTSE 250 mid-cap stock index down as much as 1.9%. Compared to their larger UK peers, these domestic-focused firms were heading for the worst week on a relative basis since October 2023.
“The rise in yields is a painful blow, and it looks like, rather than being given new funds to help drive growth, government departments will have to make further cuts,” said Chris Beauchamp, chief market analyst at IG Group. “UK stocks remain cheap, and for all the wrong reasons.”
Fiscal Challenges
That’s a growing headache for Chancellor of the Exchequer Rachel Reeves, who’s been looking to portray Labour as the party of financial discipline to attract international investment and bolster growth. That mission has already hit a snag with policies around employment and an increase to national insurance contributions labeled as inflationary.
Meanwhile, fiscal rules that Reeves wants the government to follow, including a non-negotiable commitment to avoid borrowing for day-to-day spending, are coming under increasing pressure as her £9.9 billion ($12.2 billion) of headroom continues to dwindle.
“We don’t ‘feel’ like we are in the same Liz Truss zone right now,” said Brad Bechtel, head of FX at Jefferies. “But we are in a micro version of that for sure.”
Money markets are now pricing just one full quarter-point BOE reduction this year, with a roughly 80% chance of a second cut. That compares with Tuesday when two cuts were locked in and traders placed a 20% probability on a third reduction by year-end.
“Fiscal sustainability questions come to the fore again,” Lloyds strategists including head market insights of Sam Hill, wrote in a note. If yields keep rising, “the Chancellor is likely to come under pressure to outline an approach for restoring fiscal headroom.”
Relentless Rise
Traders are scrutinizing debt auctions for signs of stress as a result, though the higher yields created by the selloff are attracting some buyers. The UK sold £4.25 billion of five-year debt Wednesday, pulling in three times more bids than the amount of securities available. Yields on UK five-year bonds rose to a fresh 15-month high after the sale.
The slide in bonds Wednesday was exacerbated by positioning as long positions in gilt futures were stopped out, according to traders. The gilt market has proved more volatile than other major bond markets in recent years, with investors often citing periods of poor liquidity.
“January is famous for crushing positions in ways which don’t always make sense and I felt like long UK duration was a fairly popular position,” said James Athey, a portfolio manager at Marlborough Investment Management. “It wouldn’t surprise me to know that there is a lot of stop outs going on.”
The fact UK markets are once again at the epicenter of a rout is inviting comparisons to the gilt crisis two years ago. Rates on 30-year inflation-linked gilts on Wednesday exceeded 2% for the first time since September 2022. Back then, traders were grappling with the fallout from Truss’s disastrous mini-budget — a period that saw a fire-sale of these securities as pension funds faced a fraught liquidity crunch that ultimately necessitated central-bank intervention.
Ignoring the spike higher in 2022, the yield on 30-year linkers last traded above 2% consistently in 2003. The DMO is set to sell £1 billion of those securities next week.
To be sure, much has changed since the 2022 crisis. The liability-driven investment strategies at the heart of the rout must now hold larger cash buffers in order to reduce the chance of another liquidity crisis after an international regulatory effort. The BOE is also developing a repo facility that will allow these funds to raise cash in the event of future turbulence.
What Bloomberg Strategists Say....
“Concern that the UK’s autumn budget will stoke inflation has been rippling through to the markets, with two-year inflation breakevens now about 55 basis points higher since Chancellor Rachel Reeves presented her plan. Gilts will continue to underperform their regional peers in the months ahead.”
—Ven Ram, Cross-Assets Strategist, Dubai
More broadly, Chancellor Reeves’ courting of markets is very different from the fiscal proposals of the Truss administration, which caught investors off guard. Because of Reeves’ self-imposed fiscal rules, the government will likely need to raise taxes or reduce spending if yields remain at elevated levels.
“While the speed and extent of the move higher in bond yields has not been anywhere near as violent as that witnessed following the Truss budget in 2022, the impact of higher rates on the economy, particularly via higher mortgage rates, is not to be underestimated,” said Matthew Ryan, head of market strategy at Ebury.
--With assistance from Alice Gledhill, Joshua Gaunt-Warner, Joe Easton, Michael Msika and Alice Atkins.
(Updates prices throughout, adds Jefferies quote in 11th paragraph.)
