Pound suffers largest three-day drop in two years amid gilt turmoil
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The British pound is experiencing its steepest three-day decline in nearly two years, pressured by surging gilt yields and growing concerns about the UK’s fiscal stability. Sterling was down 0.9% on Thursday, trading at $1.226, its lowest since November 2023. Against the euro, the pound fell 0.6% to 83.93 pence, marking a two-month low.
Key drivers of sterling’s decline
Gilt yields hit multi-year highs
Benchmark 10-year gilt yields surged by 25 basis points this week alone, reaching their highest level since 2008.
30-year gilt yields also climbed to levels not seen since 1998, reflecting broader global trends in rising long-dated yields.
Fiscal concerns and inflation risks
Investors are increasingly concerned about the UK’s fiscal outlook, with rising gilt yields raising the risk of breaching fiscal rules.
Weaker sterling could exacerbate inflationary pressures, complicating the Bank of England's policy outlook.
Global bond market sell-off
The UK gilt market has been hit harder than most, as global bond yields soar due to concerns about inflation, reduced expectations for rate cuts, and fears of increased debt issuance under President-elect Donald Trump.
Breakdown of the gilt-pound relationship
Ordinarily, higher gilt yields would attract foreign investment and support the pound. However, the current surge reflects fiscal instability rather than economic strength, undermining investor confidence in sterling.
Bank of England’s tightrope
The Bank of England has maintained higher interest rates longer than other central banks, historically supporting the pound.
However, rising yields and fiscal concerns are now casting doubt on the BoE's ability to cut rates as quickly as anticipated.
Strategist insight
Deutsche Bank strategist Jim Reid highlighted the risk that the government might need to announce further fiscal consolidation measures, such as tax hikes or spending cuts, to stabilize the situation.
Comparisons with past turmoil
This week’s move in gilts is notable but far less severe than the market chaos of September 2022, when unfunded tax cuts proposed by then-Prime Minister Liz Truss triggered a gilt freefall, forcing the BoE to intervene.
Outlook for sterling
Near-term risks
The pound remains under pressure as fiscal concerns persist and gilt yields rise.
Sterling may face further volatility if fiscal or monetary policy changes are announced to address the situation.
Key levels to watch
Support: $1.2200, a psychological level that could attract buyers.
Resistance: $1.2400, where a rebound may face significant headwinds.
Global context
The dollar's strength, fueled by expectations that the Federal Reserve will maintain higher rates, adds another layer of pressure on the pound. The derivatives market shows limited expectations for BoE rate cuts, mirroring the cautious outlook for the Fed.
Conclusion
The pound's decline underscores deepening investor concerns about the UK’s fiscal health and the broader impact of surging global bond yields. While current conditions are far from the turmoil of late 2022, sterling remains vulnerable amid rising inflation risks and fiscal uncertainty. Market participants will closely monitor policy announcements and economic data for signs of stabilization.
Key drivers of sterling’s decline
Gilt yields hit multi-year highs
Benchmark 10-year gilt yields surged by 25 basis points this week alone, reaching their highest level since 2008.
30-year gilt yields also climbed to levels not seen since 1998, reflecting broader global trends in rising long-dated yields.
Fiscal concerns and inflation risks
Investors are increasingly concerned about the UK’s fiscal outlook, with rising gilt yields raising the risk of breaching fiscal rules.
Weaker sterling could exacerbate inflationary pressures, complicating the Bank of England's policy outlook.
Global bond market sell-off
The UK gilt market has been hit harder than most, as global bond yields soar due to concerns about inflation, reduced expectations for rate cuts, and fears of increased debt issuance under President-elect Donald Trump.
Breakdown of the gilt-pound relationship
Ordinarily, higher gilt yields would attract foreign investment and support the pound. However, the current surge reflects fiscal instability rather than economic strength, undermining investor confidence in sterling.
Bank of England’s tightrope
The Bank of England has maintained higher interest rates longer than other central banks, historically supporting the pound.
However, rising yields and fiscal concerns are now casting doubt on the BoE's ability to cut rates as quickly as anticipated.
Strategist insight
Deutsche Bank strategist Jim Reid highlighted the risk that the government might need to announce further fiscal consolidation measures, such as tax hikes or spending cuts, to stabilize the situation.
Comparisons with past turmoil
This week’s move in gilts is notable but far less severe than the market chaos of September 2022, when unfunded tax cuts proposed by then-Prime Minister Liz Truss triggered a gilt freefall, forcing the BoE to intervene.
Outlook for sterling
Near-term risks
The pound remains under pressure as fiscal concerns persist and gilt yields rise.
Sterling may face further volatility if fiscal or monetary policy changes are announced to address the situation.
Key levels to watch
Support: $1.2200, a psychological level that could attract buyers.
Resistance: $1.2400, where a rebound may face significant headwinds.
Global context
The dollar's strength, fueled by expectations that the Federal Reserve will maintain higher rates, adds another layer of pressure on the pound. The derivatives market shows limited expectations for BoE rate cuts, mirroring the cautious outlook for the Fed.
Conclusion
The pound's decline underscores deepening investor concerns about the UK’s fiscal health and the broader impact of surging global bond yields. While current conditions are far from the turmoil of late 2022, sterling remains vulnerable amid rising inflation risks and fiscal uncertainty. Market participants will closely monitor policy announcements and economic data for signs of stabilization.