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Introduction: Sterling hits record low after Kwasi Kwarteng promises more tax cuts.
Good morning, and welcome to our rolling coverage of business, the global economy and financial markets.
Global confidence in the UK has been hit hard by the government’s low budget and tax cut policies, and the pound is paying the price.
Sterling was lower against the US dollar in Asia-Pacific trade, extending Friday’s losses and moving closer to parity.
Investors rattled by tax cuts announced by Kwasi Kwarteng’s small budget – the UK chancellor vowed to pursue further tax cuts at the weekend.
The pound fell about 5% to $1.0327, according to Reuters data, the lowest since at least a decennial devaluation in 1971, as confidence in Britain’s economic management and assets evaporated.
Even after stumbling to $1.05 when City traders reached their desks this morning, the currency was down 7% in two sessions.
The day could be volatile with fears of a global recession hitting markets.
Naeem Aslam Chief Market Analyst at AvatradeHe has a serious assessment of the situation:
Sterling is taking an absolute hit in trading this week, and traders have picked up right where they started on Friday.
Sterling looks like an emerging market currency, especially when you look at the value of the British pound a few months ago and compare it to where it is now.
Mark Chandler, chief market strategist at Bannockburn Global Fox, called the currency’s record decline “spectacular”. He believes there will be an emergency Bank of England meeting and price hike speculation.
The pound is now down 10% this month, hit by worries over a looming recession and high borrowing costs to fund Quartet’s £45bn endowment.
Yesterday, Quarteng told the BBC’s One Sunday with Laura Kuensberg that the Trust plans to reshape the UK economy with more tax cuts and fewer regulations.
“There will be more to come,” said Kwasi Kwarteng, who declined to put a limit on how much public debt could be created in the process.
Chris Weston, head of research at brokerage Pepperstone, said the pound was the “whipping boy” of G10 foreign exchange markets, while the UK bond market was “smoking”.
Weston told their customers:
“Investors are looking for a response from the Bank of England. You are saying this is not sustainable when you have stunted growth and twin deficits.
“The need for funds to pay for the micro-budget means we should see much better growth or higher bond yields leading to stimulus capital flows,” Weston said.
The City is now looking to see if the Bank of England will act to stabilize the market.
Friday afternoonDeutsche Bank Analyst George Saravelos The BoE said earlier this week that a big interest rate hike would be needed to calm markets and restore credibility….
Here is the full story:
the agenda
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9am BST: German Ifo Business Climate Index
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1:30 pm BST: Chicago Fed National Activity Index on the US economy
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2pm BST: ECB President Christine Lagarde appears before the European Parliament’s Economic and Monetary Affairs Committee in Brussels.
Key events
Filters Beta
Bloomberg: Pound-dollar parity looks more likely
Based on options market prices, there is an increasing chance that sterling will fall to parity with the dollar this year, Bloomberg calculated.
Here are the details:
Sterling-dollar implied volatility suggests a 60% chance of reaching 1.00 by the end of this year — based on spot trade at $1.0552 — compared with 32% on Friday.
Markets are also expecting more volatility, with sterling-dollar three-month volatility rising 4.31% to 20.05% on Monday. That’s approaching the peak rate of 20.62% during the 2020 pandemic meltdown.
A jump in UK gilt yields is pushing ten-year borrowing costs up to 12 years – just as the British government plans to borrow a lot more.
It will be expensive….
In one-hour trading in London, sterling recovered some of its overnight 10-year gilt yield – effectively the interest the government pays on debt, much of which remains outstanding – up more than 4.1%, the highest in 12 years. pic.twitter.com/gLiAvizqUU
— Paul Kelso (@pkelso) September 26, 2022
UK 10-year gilt yields 1% in January
More than 4.2% this morning
£2.4tn debt
This is going to be expensive.— Louise Cooper (@Louiseaileen70) September 26, 2022
Investors ‘see the Conservative Party as a doomsday cult’, says the analyst
Paul Donovan, chief economist at UBS Global Wealth Management, said investors seem intent on viewing the UK Conservative Party as a doomsday cult.
In this morning’s commentary, Donovan delivered a scathing verdict on the government’s plans:
Global signals from the UK’s low budget case. Modern money theory has been pushed into a corner by bond markets. Advanced economic bond yields are not expected to rise in the same way as UK gilt yields.
This reminds investors that modern politics produces more extreme parties than the consensus of both the voter and the investor. Investors seem inclined to regard the UK Conservative Party as a doomsday cult.
Tax cuts are unlikely to deliver meaningful medium-term growth for the UK (the supply constraints in the UK economy are more about health and education). It can be a short-term “sugar high” but it can be limited. A rational response of a high earner is to increase savings in anticipation of future tax increases.
El-Erian: Quarantine needs to stabilize the markets by fixing a small budget.
Mohamed El-Erian, an adviser to financial services giant Allianz, said Chancellor Kwasi Kwarteng was wrong to be relaxed about the market’s reaction to the smaller budget.
El-Erian, president of Queen’s College Cambridge, said that quartering needs to be more focused, otherwise “what happens in the markets can snowball and undermine what it wants to do.”
El-Erian told the Today program that moves in yields and the pound would translate into “even stronger stagflationary headwinds,” which would counter Karteng’s growth push.
L’Erian added that the Bank of England would have to raise interest rates by one percentage point if British Finance Minister Kwasi Kwarteng did not ‘re-adjust’ the mini-budget, which surprised the markets by ruling out further tax cuts.
If the chancellor leaves the plans alone, the Bank of England will have to raise interest rates in an emergency meeting. But that also goes against Kwarteng’s plan.
Putting the chancellor’s foot on the accelerator and the bank governor’s foot on the brake is not a good way to drive the UK economy, warns L’Erian.
But even so, El-Erian said if the chancellor doesn’t change course, he’ll raise it a percentage point.
“If I were the governor and the chancellor didn’t adjust the plan, I would raise interest rates by at least 100 basis points by one full percentage point to calm and stabilize the situation.”
He also wrote about his concerns for the Guardian today:
Economist Shaun Richards has suggested the Bank of England should halt plans to sell some UK gilts.
The BoE has decided to begin unwinding its quantitative easing (QE) program by selling £80bn of gilts over the next few months. This, however, adds to the selling pressure on the bond market.
Maintaining quantitative easing (QT) may stabilize markets…
Much has been said about the Bank of England’s intervention in the wrong market! The UK’s ten-year yield is at 4.1% for £80 billion of bond sales or active QT should cancel the plan. It calms things down….
— Shawn Richard (@notayesmansecon) September 26, 2022
…. And UK gilts are far from stable now that they are losing ground.
Shadow Chancellor Rachel Reeves hinted at further “unfunded” tax cuts, accusing Kwasi Kwarteng of “fueling the fire” for the falling pound.
Speaking to BBC Radio 4’s Today programme, Reeves said:
“It’s incredibly worrying.
A lot of people were hoping things would calm down over the weekend, but I think the chancellor fueled the fire on Sunday that there could be more stimulus and more unfunded tax cuts, sending the pound into a slump overnight. “All-time low against the dollar.”
UK bonds continue to fall – pushing yields higher.
The two-year gilt yield (a measure of short-term borrowing costs) reached 4.5% – doubling in mid-August.
At 4.5%, the 2-year UK gilt yield rebounded after spending a decade below 1% until October 2008. This is not an isolated incident, following the Italian BTPs pic.twitter.com/dbthkbTvTV
— Rich Kleinbauer (@RMKOutFront) September 26, 2022
Here is the Reuters report:
British government bond prices hit a record low against the U.S. dollar overnight in early trading on Monday, pushing yields to their highest in more than a decade.
The five-year gilt yield rose more than 40 percent to 4.503 percent, from October 2008. At its highest, the two-year yield rose more than 50 basis points to 4.533 percent since September 2008.
Government borrowing costs rose more than 4% as bond prices fell.
UK government bonds are selling off sharply in early trading – again, adding to Friday’s losses after a small budget.
In the UK two-year, five-year and ten-year gilt yields or interest rates have all risen dramatically.
Yields (which rise when prices fall) measure the interest rate on bonds – so this shows that the UK’s borrowing costs have risen, as it needs to borrow an extra £72bn this year to fund the Kwasi Kwarteng plan.
The two-year gilt yield rose 37 basis points (0.37 percentage point) in early trade, to 4.365%, the highest level since September 2008 – the start of the financial crisis.
The five-year gilt yield jumped 32 basis points to 4.38%, a level not seen since October 2008 (the month of the collapse of Lehman Brothers).
And the 10-year gilt yield rose to 4.08% at the open, up 25 basis points from its April 2010 high.
The FTSE 100 index of blue-chip companies listed in London was up 0.33%, after recovering slightly from Friday’s 2% slide.
The weak pound benefits major exporters, making their goods and services more competitive overseas. Consumer goods maker Reckitt Benckiser (+2.8%), drinks group Diageo (+2%) and pharmaceuticals maker GSK (+1.7%) were among the risers.
However, the domestically-focused FTSE 250 index (a better gauge of the UK economy) fell 0.75%, its lowest since November 2020.
House-builders are leading the decline in London, fearing high interest rates on the property market.
The pound pared some of its earlier losses after a shock overnight crash on Asia-Pacific markets.
Sterling is still in the red against the dollar, down 1.3% today at $1.071, still a penny and a half below Friday’s close.
On Friday, the pound shed four cents as investors were surprised by the amount of borrowing needed to support the Quarantine plan. And in early September, the pound was worth around $1.15.
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