- The yield on 10-year gilts nudged 4.9%, the highest since 2008, while 30-year gilts yields hit their highest level since 1998.
- Financial markets are still expecting two interest rate cuts by the end of the year, and there’s still more than a 60% chance of a cut in February.
- What it means for:
Tax and spending
Interest rates
The pound and the FTSE 100
Growth stocks
Bond investors
Savings
Pensions and annuities
Mortgages
Susannah Streeter, head of money and markets, Hargreaves Lansdown:
“The bond markets are riding the rumour rollercoaster when it comes to the inflationary impact of Trump’s tariff plans, leading to expectations that interest rates will have to stay higher for longer. This has caused nervousness among investors. Already there was wariness surrounding the level of UK debt and the gilt markets are now in the eye of the storm.
In the UK, there is also particular concern brewing about stagflation taking hold, given that inflation has been creeping up and pay growth is still hot, while the economy has been stagnating. There are concerns this may limit the interest rate reductions by the Bank of England this year. It’s unclear to what extent the UK government’s investment in infrastructure will provide a boost to growth over the longer term. It seems appetite to buy long-term dated UK government debt has fallen amid the increased uncertainty gripping global bond markets.
Impact on tax and spending
The yield on 10-year gilts nudged 4.9% earlier, the highest since 2008, while 30-year gilts yields hit their highest level since 1998. Although they’ve retreated a little, government borrowing costs remain sharply higher, putting Chancellor Rachel Reeves in a tricky position.
If the bond strop out continues, she risks falling foul of her fiscal rules – that day-to-day spending will be met by tax receipts and for debt to fall as a share of the economy. This increase will push up government borrowing costs sharply, putting Rachel Reeves in a difficult position. If the government has to pay higher interest on its debt, it means there is less tax revenue to spend on public services. The Chancellor already had limited wiggle room and the risk is that she may have to either cut spending or raise taxes.
Impact on interest rates
This bond strop out is unlikely to have an immediate impact on decisions by the Bank of England when it comes to interest rate cuts. Financial markets are still expecting two interest rate cuts by the end of the year. If the government is forced to increase taxes or reduce spending, which Rachel Reeves will want to avoid, it could dampen down economic activity and make interest rate cuts more likely.
Impact on the pound and FTSE 100
Although higher gilt yields usually give support to the pound, the dollar’s strength is flexing even more muscle, and concerns about UK growth prospects are also weighing on sterling. However, the UK is overall expected to be more insulated from the effect of fresh US tariffs, given the majority of trade with America is in services, which may be exempt from higher duties.
This may help sterling regain some ground, especially if bond markets calm further. For now, the weaker pound is providing a tailwind for the FTSE 100, given that multinational companies with overseas earnings, like mining stocks, benefit from the lower exchange rate. However, gains are being held back with retailers like M&S losing ground over concerns about the UK economic outlook.
Impact on growth stocks
The main worry gripping the bond market is that a big swathe of US tariffs will stoke the embers of inflation and fan consumer prices. This has the potential to tie the Fed’s hands and limit interest rate cuts in the US even further this year. This is weighing on growth stocks, such as technology companies in particular, given that a higher rate environment pushes down the value of their future earnings. These concerns have been weighing on the so called Magnificent Seven companies on Wall Street but on the London market it’s also far from positive for some companies like retail solutions and robotics company Ocado. Its valuation is highly linked to expectations of future sales but some of its retail partners have pressed pause on expansion and the picture may not change any time soon, given that higher interest rates are expected to linger for longer.”
Impact on Bond investors
Hal Cook, Senior Investment Analyst, Hargreaves Lansdown:
“Don’t panic. Investment objectives should usually focus on the longer term, and shorter-term volatility is to be expected. However, it’s worth investors reviewing where they’re invested and whether the split between shares and bonds is still what they want, given their objectives.
Rebalancing is a good investment habit to get into. It forces investors to sell things that have done well and buy those that haven’t. That can seem illogical on the face of it. But it’s rare for something that has performed strongly to continue to perform strongly, especially over the long term.
You might think that yields could go higher, and you might want to try to time the peak in yields. That’s notoriously difficult and markets can move quickly, so it could backfire if yields suddenly reverse their current trend. Tactical changes to an investment portfolio, in the hope of a short-term profit, are almost certainly better left to the professionals. Investors should consider holding multi-asset investment funds as part of their portfolio for this purpose.”
Impact on savings
Mark Hicks, head of Active Savings, Hargreaves Lansdown:
“The bond drama isn’t likely to get the savings market out of its seat at the moment – it’s not in the knee-jerk reaction business. If yields don’t fall back in the coming days, as the market more fully digests news out of the US, we could see expectations for rate cuts pushed out further.
We’re starting to see it have an effect on longer term fixed rates, with rates fixed for between two and five years increasing. This means we could see the savings market normalise faster than we predicted, with fixed rates paying more than shorter-term rates.
For now, this is unlikely to happen any time soon, unless something more significant happens to move the dial. The overall trend in shorter term rates is still going to be downwards, but savers shouldn’t hang about in the hope that the bond drama delivers a big boost to savings rates and should take advantage of the bump in longer term rates. There are some decent deals around right now, and they’re worth taking advantage of while they last.”
Impact on pensions and annuities
Helen Morrissey, head of pensions analysis, Hargreaves Lansdown:
“Falling bond prices could cause concern for retirees who are coming up to retirement invested in lifestyling arrangements. These move the member out of equities and into bonds the closer they get to retirement. However, there’s no need for knee-jerk reactions. Those who intend to remain invested through income drawdown have the ability to hold fire on drawing an income until the markets have recovered. Those who are looking to annuitise some or all of their pension pot will also likely find that the spike in gilt yields can push the income available from an annuity upwards, softening the impact. It’s also worth saying that you don’t have to annuitise all your pension at once. You can do it in stages throughout retirement securing a guaranteed income as your needs evolve while leaving the rest invested in drawdown where it can grow.”
Sarah Coles, head of personal finance, Hargreaves Lansdown:
Impact on mortgages
“The rise in gilt yields always raises the spectre of rising fixed mortgage rates, because they’re very responsive to changes in interest rate expectations. Rates have already crept up very slightly, but there’s no need for prospective borrowers to panic at this stage.
It’s worth noting that although the bond markets have thrown a wobbly, it hasn’t particularly altered expectations of what the Bank of England is likely to do to rates. The market is still pricing in just over a 60% chance of a rate cut in February – it has moved from 66% to 64%, but that’s nothing to frighten the horses.
Very slightly higher rates have been brought in by some mortgage lenders, who had to secure a fixed rate in the swap markets while they’re more expensive, but as yet there’s nothing more widespread. This is likely to filter into more deals, but it’s not yet clear how long this disruption in the bond markets will last.
The bond market in the UK reacted dramatically to news out of the US – more so than other markets around the world. In the coming days, this could subside if the bond markets decide they’ve got a bit ahead of themselves. There are no guarantees, but the strength of the immediate reaction means there’s room for the markets to gain a bit of perspective. If that happens, we’ll see yields drop again, and mortgage rates could ease.
Of course, there are no guarantees If more worrying news comes out of the US, or fears of stagflation spread, bond yields could remain higher, and if this happens, there’s more of a chance it will be reflected in more widespread higher mortgage rates.
