Gilts Jump as UK Inflation Surprise Curbs Rate-Hike Wagers

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(Bloomberg) — Gilts rallied as a sharper-than-expected slowdown in UK inflation prompted traders to trim bets on a Bank of England interest-rate hike next month. 

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Yields on two-year government bonds, which are most sensitive to rate expectations, slipped ten basis points to 4.41%. Ten-year gilts also rose, lowering the yield seven basis points to 5.06%.

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The consumer price index rose 2.8% from a year earlier in April, the Office for National Statistics said Wednesday, a slower pace than the 3% forecast by economists. While investors welcomed the development, yields remain near multiyear highs amid concern about the long-term inflation impact of the conflict in the Middle East as well as political turmoil in the governing Labour Party.

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The softer data are “not a green light just yet,” said Evelyne Gomez-Liechti, a multi-asset strategist at Mizuho International Plc. “The UK story this morning is a clean dovish data impulse, but the market isn’t fully buying it.” 

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The BOE is expected to lift interest rates this year, but the CPI numbers and weak labor market data will likely make a hike less urgent. Traders now see the chance of a rate increase in June at less than 20%, compared with about 50% at one point last week, swaps pricing shows.

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While bonds globally have had a rocky few months, the UK gilt market stands out. The chance of a protracted Labour leadership challenge and concern a new prime minister could boost the nation’s already-high debt burden have spooked investors. 

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Yields on longer-dated gilts are near their highest levels in decades, climbing above those of bonds from all other Group-of-10 peers. The lurch higher came as a possible path to 10 Downing Street opened for Labour leader hopeful Andy Burnham amid calls for Prime Minister Keir Starmer to resign after weak local election results.

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Inflation Threat

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Despite all the political noise over a leadership challenge and spending, Kim Crawford, global rates portfolio manager at JPMorgan Asset Management, says inflation is the key factor driving gilts. 

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“I think we fully expect more spending to come — but I think what’s moving the markets in the last week, it’s not fiscal, it’s the inflation picture,” she said. In the UK, “we are still pretty neutral at the moment because we are slightly more concerned about the inflation persistence than we are in Europe,” she added. 

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The government is trying to ease cost-of-living pressures for struggling Britons. Chancellor of the Exchequer Rachel Reeves has privately proposed voluntary price freezes on food in supermarkets, according to people familiar with the matter.

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April’s inflation slowdown will be short-lived, with energy prices stay high due to the continued closure of the Strait of Hormuz, according to Neil Birrell, chief investment officer at Premier Miton. 

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“Hopes for inflation falling further through the year will be dashed by the energy price surge we are experiencing,” he said. “The Bank of England won’t see this release as a path to think about easing policy, which is likely to be going the other way this year.” 

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—With assistance from Alice Gledhill.

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