Pound, gilts and UK stocks stage cautious rebound

The pound, gilts and UK stock market have bounced higher after a week of turmoil, as global investors reacted to attempts to steady Britain’s economic ship.

Further support for the markets came as investors weighed the possibility of an interest rate pivot from the US Federal Reserve.

The FTSE 100 and FTSE 250 were up 2 and 2.6 per cent, respectively, by late afternoon after weak US manufacturing data on Monday increased chances that the Fed may opt to pause interest rate hikes, in order to prevent the economy from slowing too sharply.

Attempts to indicate greater fiscal discipline and the scrapping of plans to abolish the UK’s 45p tax band also helped sterling tick 0.3 per cent higher to $1.14, while gilt yields have fallen across the board.

UK asset staged a rebound on Tuesday as investors welcomed signs of a Fed pivot and the UK Government’s u-turn on scrapping the 45p tax rate 

Two-year, five-year and 10-year gilt yields were down 22 basis points, 18bps and 15bps today.

However, at 3.71 per cent, 4 per cent and 3.8 per cent, respectively, they remain above levels seen before the Chancellor’s now-infamous mini-budget, despite Bank of England intervention since the event.

Meanwhile 30-year gilt yields, specifically targeted by the Bank of England, are back to pre-mini budget levels at 3.84 per cent.

Speculation of a Fed pivot has not only benefited UK assets, with the euro, and European and Asian stocks performing well on Tuesday.

All major European exchanges are up by more than 2 per cent, pushing the Euro Stoxx 50 2.7 per cent higher, while the Bombay-based BSE Sensex and Tokyo’s Nikkei 225 have added 2.3 and 3 per cent, respectively. The euro has rallied against all major currencies.

Risky assets have taken a hit this year as central banks globally undertake monetary tightening to tame surging inflation, at the risk of causing a recession, and the potential for a Fed pivot has spurred investor optimism.

Head of portfolio management research at MSCI Andy Sparks said: ‘The chances for a pivot are much greater during 2023.

‘The Fed seems poised to hike rates another 1.25 percentage points. So far, the Fed has had the luxury of taking a hawkish position while the labour market has been hot. But the picture may change entering the new year.

‘The easy pivot path for the Fed will be if inflation has fallen significantly. The real challenge will be if inflation has not declined as much as hoped, but the economy has weakened. In such a case, the Fed’s resolve to continue rate hikes will be tested.’

While the FTSE 100 remains roughly 6 per cent down for 2022, this represents outperformance versus global peers which have fallen much further.

The index has benefited from its export-driven and dollar-earning participants, while the more domestically-focused FTSE 250 has fallen by more than 25 per cent this year.

Head of markets at interactive investor Richard Hunter said today’s rally in UK stocks ‘may have been welcome, but it may also be transitory’.

He added: ‘The UK government’s decision to reverse part of its previous tax cutting plan also had a disproportionately positive affect on sentiment generally, with sterling recouping some of its previously precipitous losses following the initial announcement.

‘More volatility is likely to follow as the global economy grapples with high and persistent inflation and the central banks’ attempts to tame it without tipping into recessionary territory.’

The pound remains roughly 16 per cent down against the US dollar since the start of 2022 and experts warn it is unlikely to recover ground in the near-term.

Chief global strategist at Principal Global Investors Seema Shah said that while the pound may have rebounded to pre-‘fiscal event’ levels, this should not be interpreted as markets’ endorsement of ‘Trussenomics’.

She added: ‘It is true that sterling has had a mini-rally but, firstly, this was from historically weak levels to begin with and, secondly, the new value of sterling prices in steep rate rises which have been made necessary by the chaotic market response to the Chancellor’s growth plan.

‘To be back where we were – but with a potential mortgage crisis now baked into the cake – is hardly a triumph.

‘Further sterling rises might in fact be telling us that investors believe that the Truss/Kwarteng axis can be brought in line with more orthodox economic thinking by MPs who have not been shy to make their scepticism public and threatened to vote against their own party – quite the opposite of markets “believing” the Government’s vision.

‘It could even indicate investor opinion that the odds of either – or both – the PM and Chancellor leaving their respective posts earlier than planned are rising. What looks on the surface like a cautious vote of confidence in the currency markets could, in fact, be anything but.’

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