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London Quick Take - 23 Sep - Rising bond yields pressure stocks ahead of Trump-Xi meeting, oil surges on Iran ultimatum rumours
Neil Wilson
Investor Content Strategist
Note: This is marketing material. This article is not investment advice, capital is at risk.
Gilt market participants may have also had an eye on the prime minister, Andy Burnham, making the kind of comments you kinda wish he just wouldn't make. He said he stands by his view that the UK is "in hock" to the bond market...there is this cognitive dissonance where he says we are at the mercy of the bond market but shouldn't be – like it's something the government cannot control.
This morning a test balloon is being flown with a report in the FT that the Chancellor would be comfortable with reducing the fiscal headroom in order to avoid more tax hikes. It's likely the roughly £24bn of headroom left by Reeves in March has been halved by the spike in bond yields, which would ordinarily require tax hikes to offset. The balloon being floated is that Healey would just accept less headroom and the bond market would be totally fine with this, which I very much doubt. The key will be that the underlying fiscal plan underpinning a Budget with less headroom is credible, but I would think that the gilt market has a low threshold for this kind of thing. It's not messing with the fiscal rules as such, but it would undermine confidence the government can stay within them and would signal a deeper issue; that they are not willing to take tough decisions on welfare spending. Tinkering with spreadsheets won't fix the underlying economic and political challenges.
But at least we may not need a rate hike. The OECD is right – the Bank of England can (and I would add must) avoid raising interest rates because it's starting from a very different position to other countries. This chimes exactly with the argument I have been making for several months since the onset of the war in the Middle East; that the market is mispriced and way too hawkish.
According to the OECD, the BoE can afford to leave its benchmark steady at 3.75% until well into 2027, after which the next move is to cut. Markets are on the other hand pricing in four hikes through to the end of next year. The view from the OECD – which also upgraded its growth outlook for the UK – came as the latest purchasing managers' index pointed to sluggish growth in September. The pace of expansion in the private sector slowed to a 3-month low. More on all this here.
Wednesday saw the second big down day for sterling in a week as the market catches on to the idea that the BoE will fall behind the Fed. Cable broke down further to take out the 29 July pre-FOMC lows, hitting 1.3220 as bears eye the late June cycle lows around 1.3140.
Bond yields are blowing out again partly because the US economy is booming...PMI data from the US rekindled the bonfire in the bond market as the latest S&P services and manufacturing activity surveys hit 5-year highs, underlining why the Fed is right to adopt a more hawkish stance. The pull of inflation is much stronger and broader than just the oil price – strong corporate earnings, huge AI investment and a super-tight labour market are running up against massive fiscal deficits, war driving up prices for oil and refined products and persistent supply shocks...perma-inflation is here – after a 40-year bond bull market we're only in the first innings of a multi-decade bond bear market as sovereigns grapple with unstoppable demographic trends, wars, fragmentation and ever-rising deficits, debt servicing costs, issuance and yields. This ends either in a massive crisis in financial markets, outright financial repression (capital controls) or some way of shifting the burden of debt from the public (govt) to the private (corporates).
The surprise PMI reading led to front-end yields jumping aggressively on rate hike bets, with the Treasury 2yr yield rising +20bps to a fresh cycle high before settling down a shade lower at 4.89%. With this, market-implied odds for the Fed to hike again next month rising to 69% from 54% before the PMI. The benchmark 10yr Treasury yield also leapt about 15bps to 5.11%, a new 19-year high. Federal Reserve Governor Michael Barr said that “further policy adjustments are likely to be needed”, adding to a growing chorus of Fed voices indicating that there will be more hikes.
The bump up in yields was plenty enough to drive down risk sentiment and send stocks lower for the session, particularly as it came alongside a rally in oil prices with Brent rising back to $103 in the afternoon session after Iran's leader delivered a robust speech at the UN. He indicated that Iran would continue with its nuclear programme and may restrict Strait of Hormuz shipping while sanctions and a US blockade persist. It was not a speech that indicated peace will break out soon. Brent rallied above $103 where it's held for now.
This morning we have just seen Brent crude jump to $106.50, spiking higher on rumours that AXIOS has a report that Iranian negotiators in New York presented a strict one-week ultimatum window to the US delegation to dismantle the naval blockade or “or Iran will resume unrestricted asymmetric interdictions.”
Stocks ended the day down with the S&P 500 off –0.75% and the Nasdaq Composite –1.1% lower with utilities and consumer discretionary leading the declines in the broad market. European shares are mixed and lacking any serious direction on Thursday morning, with the FTSE 100 rising along with oil majors and the DAX and CAC drifting lower by around -0.3% and extending the pullback in the prior session. Among companies, Raspberry Pi shares leapt +15% on a record first half with revenues +90% on surging AI-related demand. Vistry shares fell -7% with another weak trading update showing constrained demand with completions down -8% despite steep discounting that hammered margins.
He said, Xi said: The big event today is the meeting of President Trump and Xi Jinping, China's leader. Ahead of this the US and China have agreed to extend their trade truce for two months until January...so that's neatly kicked the can down the road to avoid having any disagreements blow up over dinner. Aside from trade, AI and Taiwan will be on the table for discussion.
Elsewhere today, Switzerland's central bank kept rates on hold at 0% but it's unlikely that it can hold out for a lot longer and may soon be forced into tightening. Norway's central bank hiked rates and said it's open to doing more.
Back to bond markets and the UK...
The surprise PMI reading led to front-end yields jumping aggressively on rate hike bets, with the Treasury 2yr yield rising +20bps to a fresh cycle high before settling down a shade lower at 4.89%. With this, market-implied odds for the Fed to hike again next month rising to 69% from 54% before the PMI. The benchmark 10yr Treasury yield also leapt about 15bps to 5.11%, a new 19-year high. Federal Reserve Governor Michael Barr said that “further policy adjustments are likely to be needed”, adding to a growing chorus of Fed voices indicating that there will be more hikes.
The bump up in yields was plenty enough to drive down risk sentiment and send stocks lower for the session, particularly as it came alongside a rally in oil prices with Brent rising back to $103 in the afternoon session after Iran's leader delivered a robust speech at the UN. He indicated that Iran would continue with its nuclear programme and may restrict Strait of Hormuz shipping while sanctions and a US blockade persist. It was not a speech that indicated peace will break out soon. Brent rallied above $103 where it's held for now.
This morning we have just seen Brent crude jump to $106.50, spiking higher on rumours that AXIOS has a report that Iranian negotiators in New York presented a strict one-week ultimatum window to the US delegation to dismantle the naval blockade or “or Iran will resume unrestricted asymmetric interdictions.”
Stocks ended the day down with the S&P 500 off –0.75% and the Nasdaq Composite –1.1% lower with utilities and consumer discretionary leading the declines in the broad market. European shares are mixed and lacking any serious direction on Thursday morning, with the FTSE 100 rising along with oil majors and the DAX and CAC drifting lower by around -0.3% and extending the pullback in the prior session. Among companies, Raspberry Pi shares leapt +15% on a record first half with revenues +90% on surging AI-related demand. Vistry shares fell -7% with another weak trading update showing constrained demand with completions down -8% despite steep discounting that hammered margins.
He said, Xi said: The big event today is the meeting of President Trump and Xi Jinping, China's leader. Ahead of this the US and China have agreed to extend their trade truce for two months until January...so that's neatly kicked the can down the road to avoid having any disagreements blow up over dinner. Aside from trade, AI and Taiwan will be on the table for discussion.
Elsewhere today, Switzerland's central bank kept rates on hold at 0% but it's unlikely that it can hold out for a lot longer and may soon be forced into tightening. Norway's central bank hiked rates and said it's open to doing more.
Back to bond markets and the UK...
Gilt market participants may have also had an eye on the prime minister, Andy Burnham, making the kind of comments you kinda wish he just wouldn't make. He said he stands by his view that the UK is "in hock" to the bond market...there is this cognitive dissonance where he says we are at the mercy of the bond market but shouldn't be – like it's something the government cannot control.
This morning a test balloon is being flown with a report in the FT that the Chancellor would be comfortable with reducing the fiscal headroom in order to avoid more tax hikes. It's likely the roughly £24bn of headroom left by Reeves in March has been halved by the spike in bond yields, which would ordinarily require tax hikes to offset. The balloon being floated is that Healey would just accept less headroom and the bond market would be totally fine with this, which I very much doubt. The key will be that the underlying fiscal plan underpinning a Budget with less headroom is credible, but I would think that the gilt market has a low threshold for this kind of thing. It's not messing with the fiscal rules as such, but it would undermine confidence the government can stay within them and would signal a deeper issue; that they are not willing to take tough decisions on welfare spending. Tinkering with spreadsheets won't fix the underlying economic and political challenges.
But at least we may not need a rate hike. The OECD is right – the Bank of England can (and I would add must) avoid raising interest rates because it's starting from a very different position to other countries. This chimes exactly with the argument I have been making for several months since the onset of the war in the Middle East; that the market is mispriced and way too hawkish.
According to the OECD, the BoE can afford to leave its benchmark steady at 3.75% until well into 2027, after which the next move is to cut. Markets are on the other hand pricing in four hikes through to the end of next year. The view from the OECD – which also upgraded its growth outlook for the UK – came as the latest purchasing managers' index pointed to sluggish growth in September. The pace of expansion in the private sector slowed to a 3-month low. More on all this here.
Wednesday saw the second big down day for sterling in a week as the market catches on to the idea that the BoE will fall behind the Fed. Cable broke down further to take out the 29 July pre-FOMC lows, hitting 1.3220 as bears eye the late June cycle lows around 1.3140.
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