UK bonds and payrolls dominate markets on Friday

There are two key stories for financial markets at the end of this week: the UK bond market and US payrolls. At the start of trading on Friday, UK yields are selling off to the tune of more than 3 basis points across the curve. European bond markets are also selling off at the end of the week, however, due to the market’s sensitivity to the new measures announced in the Budget, the UK is standing out for all the wrong reasons.

The post-Budget sell off in the UK bond market has been brutal. The 2-year yield is higher by 32 bps since Wednesday, while the 10-year yield is higher by 21 bps. The sell off in 2-year yields was down to concerns that the BOE will need to slow down the pace of rate cuts. The implied interest rate for September 2025 is now 4.10%, this had been 3.81% before the Budget. Thus, on the back of Rachel Reeves’ tax and spend plans in her first Budget, the market has priced out over one interest rate cut from the BOE.

Pension LDI investments, protected for now

The selling in the UK bond market on Thursday was mostly concentrated in the short to end of the UK bond market. The 30-year Gilt yield rose at a more moderate pace and is higher by 21bps since the Budget was announced. This is still a steep move; however, it suggests that pension fund Liability Driven Investment, is relatively protected for now. However, if the sell off continues, or if the 30-year yield plays catch up, then another LDI crisis cannot be ruled out. The 30-year yield is higher by 5 bps on Friday morning.

Since a 5-year mortgage is typical in the UK, the surge in bond yields this week will impact the mortgage market, and mortgages will be more expensive both to re-finance and for first time buyers. As we mentioned, unless the recent rise in bond yields is reversed in the next few days, then higher yields may also impact next week’s Bank of England growth and inflation forecasts, as they base their forecasts on the expected path for Bank Rate. Thus, the recent outperformance of UK GDP could be damaged by the recent rise in bond yields.

Budget: The Elephant in the room at Threadneedle Street

The move in UK Gilts highlights how vulnerable the UK bond market is to higher levels of debt issuance. The government has learnt this the hard way. Looking ahead, the market will be focused on the Bank of England meeting. Will the BOE take steps to calm the bond market on Thursday if the sell off continues? We do not think that they will step in and buy bonds at this stage, but it will be the elephant in the room at Threadneedle Street next week.

GBP gets dragged lower by bond market rout

The pound is volatile this morning. GBP sold off on the back of the bond sell off on Thursday afternoon. Today it is hovering around the $1.29 level, the lowest level since August. The Budget has triggered risk aversion across UK asset classes. The pound is the weakest performer in the G10 FX space since the Budget, GBP/USD is down 0.5% and GBP/JPY is down by more than 1%. This is a sign that the market jitters in the UK bond market are hitting the FX market, until we see UK yields stabilize, then the pound could be at risk.

UK stocks: International factors help UK market to recover

At the start of trading on Friday, European shares have opened higher. The FTSE 100 and the FTSE 250 are both higher. The UK stock markets are internationally focused, so they are somewhat protected from domestic fiscal worries. The FTSE 100 is getting a boost from a 1.7% rise in the Brent crude oil price, which is back above $74.50 on Friday on reports that Iran could attack Israel via its proxies. The ‘war premium’ remains low for the oil price, however, it does raise its head every so often, which is keeping the price of oil volatile. Reckitt Benckiser is the top performer on the FTSE 100 today, and is higher by more than 10%, after it won a legal case in the US over its baby formula brand.

US Payrolls: Unreliable numbers

US payrolls are the main economic data release today; however, it is difficult to assess how they will impact markets. The market is expecting a sharp slowdown in payrolls growth in October, with 100k jobs expected, down from 254k in September. However, hurricanes and the Boeing strike are likely to sway these numbers, so traders may look through them. They also might not meaningfully impact next week’s Fed decision. The unemployment rate is expected to remain steady at 4.1%, and average hourly earnings growth is expected to remain at a 4% annual rate.

Big tech: Not singing on the same hymn sheet

Elsewhere, S&P 500 futures are pointing to a higher open later today, after yesterday’s sell off. Microsoft, ARM and Nvidia were some of the biggest decliners in the US market yesterday. Ahead of the US open, there are two opposing tech stories that will impact the market. Amazon’s share price is higher by 5% in the pre-market, after it reported stronger revenues for last quarter. Revenues were $158.9bn, 11% higher YoY. Amazon Web Services regained momentum and the online retail operation also performed well. However, Apple’s share price is lower by more than 1.5% in pre-market trading. Its earnings report showed net income and revenues that were inline with expectations. EPS was stronger than expected at $1.64, vs. $1.59 expected. The problem with Apple’s results was the weaker than expected forecast for this quarter’s revenues, and weakness in China. This is a reminder that big tech does not always move in unison.