Gilt Yields Spike As Budget Jitters Mount

WHERE WE STAND – It’s not exactly Truss-esque yet, but the market’s verdict on Chancellor Reeves’ first Budget, delivered on Wednesday, became increasingly clear yesterday.

In short, the high tax, high borrowing, high spending, high inflation, low growth combination that Reeves delivered at the despatch box has gone down like a lead balloon with Gilt participants. Benchmark 2-year yields rose over 20bp yesterday, rising to the highest level since May, while the 10-year yield has now risen over 25bp since Reeves stood up in the Commons, to the highest yield since last November.

Clearly, participants are highly concerned about the sizeable amount of borrowing unveiled in the Budget, with borrowing on average set to be around £35bln higher every year for the next five years. Furthermore, the lack of fiscal headroom, at just £16bln, leaves it highly likely that Reeves will have to come back for more revenue raising tax measures, or unveil an even greater amount of borrowing, in the event of even the most minor economic shock, or if the economy fails to achieve the growth expected in the OBR’s latest forecasts. Forecasts, which, of course, see GDP growth remaining below 2% for the next five years.

On the subject of headroom, it’s worth remembering that a 1.3pp rise in gilt yields across the OBR’s forecast horizon would entirely wipe out any headroom, and see the Government’s fiscal rules being breached.

It wasn’t only the move in gilts which caught the eye, but also the fact that the GBP moved in the opposite direction, with cable sliding beneath the 1.29 handle, to its lowest level since August. FX moving in the opposite direction to rates is a classic telltale sign of a market highly concerned over the unstable fiscal outlook.

Does anyone have Kwasi Kwarteng on speed dial? A penny for his thoughts! If September 2022 was the ‘Kami-kwasi Budget’, then this is starting to look like a spooky and unwelcome Halloween surprise from the pumpkin now in Number 11.

Away from the UK, markets were volatile elsewhere, taking on a distinct risk-off vibe, as fallout from disappointing Meta and Microsoft earnings on Wednesday cast a shadow over sentiment.

The S&P 500 ended the day just shy of 2% lower, the biggest one-day decline since early-September, while the Nasdaq 100 slumped over 2.4%, also the biggest one-day loss since the start of last month. While I remain bullish in the medium-, and longer-term, it’s clear that participants need little-to-no excuse to take risk off the table, ahead of the election next week. Choppy trade, with a downside bias, seems likely to continue until then, as traders square up positions ahead of polling day.

Earnings, though, it must be said, were considerably better than a day prior yesterday. Amazon delivered top- and bottom-line beats, albeit with somewhat soft guidance, sending shares 6% higher after hours. Intel, meanwhile, traded as much as 15% higher in the post-market session, as participants cheered a solid earnings slate, and upbeat guidance. Finally, Apple, also delivered beats on revenue and profitability, albeit while showing some weakness in the services rev line, though earnings growth remained strong.

Elsewhere, yesterday marked the second straight day of better than expected eurozone data – I haven’t seen any pigs flying yet, but will be sure to check!

Unemployment fell to a fresh record low 6.3% in September, though the data was accompanied by hotter than expected inflation data, with headline CPI rising to 2.0% YoY, and core CPI holding steady at 2.7% on an annual basis. Together, the data kills the chances of a 50bp ECB cut in December stone dead, in turn helping the EUR to notch a 4^th straight daily gain, although the $1.09 figure remains a bridge too far for now.

In fact, broadly, yesterday was a day of notable dollar softness, even if the move had little by way of explicit catalyst, and was more of a slow but steady grind lower. Perhaps this was driven to some extent by profit taking after recent gains, though a firmer JPY after a marginally more hawkish than expected decision from the BoJ would also have applied some pressure. Still, I remain bullish on the buck, amid the ongoing ‘US exceptionalism’ theme, with growth stateside continuing to vastly outperform that of DM peers. Electoral noise, however, is likely to overtake growth considerations in the short-term.

Still, that exceptionalism theme was again in full effect yesterday, with initial jobless claims rising just 216k last week, well below the BBG f’cast range, while the headline PCE deflator – the Fed’s preferred inflation gauge – fell to 2.1% YoY, within touching distance of the Fed’s price target. A 25bp cut next week, followed by further such cuts at every meeting in 2025, until we reach neutral in late-summer, remains my base case.

LOOK AHEAD – It’s finally Friday! But, a busy data docket awaits as the week wraps up, highlighted by the October US labour market report.

Headline nonfarm payrolls are seen rising +105k on the month, a substantial slowing from the +254k pace seen in September, though the bulk of this is set to be driven by strikes (e.g. at Boeing, likely a -30k impact), as well as the impact of Hurricanes Helene and Milton (likely around -50k to -80k impact). Unemployment, meanwhile, is set to hold steady at 4.1%, while average hourly earnings are seen rising 0.3% MoM, though this latter figure could be skewed higher, if hurricane-linked job losses disproportionately impact those on lower salaries.

For markets, the jobs report is likely to be a relatively straightforward case of ‘good news is good news’, and vice versa, with participants set to focus on the macroeconomic picture painted by the data, as opposed to any potential dovish policy implications from a soft print. That said, there is little at this stage that could deter the FOMC from a 25bp cut next week, while the bar for another ‘jumbo’ 50bp cut is rather high.

Elsewhere, today, manufacturing PMIs are released from most major economies, excluding the eurozone, with the US ISM survey set to remain in contractionary territory, albeit ticking higher to 47.6, from a prior 47.2.