(Bloomberg) – As UK market traders seemed to calm down, the finance minister's surprising exit leads to predictions of an spending premium.
As a result, investors are preparing to see UK government bonds weaken compared to their peers, diminishing the glamor of this year's rally. Larger investments in infrastructure to boost the economy could temporarily boost the pound, but the longer-term sentiment is still shaky as tough talks about a trade relationship with the European Union are pending.
Chancellor of the Exchequer Sajid Javid resigned Thursday after an argument with Prime Minister Boris Johnson, with Rishi Sunak becoming the new Chancellor. It is no longer clear that the government will adhere to the budgetary rules that require their daily expenses and income to be balanced within three years.
"The market response from gilts sales, a steeper yield curve and a stronger sterling clearly show that expectations of tax incentive announcements are increasing," said Mohammed Kazmi, portfolio manager at Union Bancaire Privee. “We have seen a situation where British gilts do worse than German federal bonds that continue to flow into the budget.
Gilts resisted global bond gains on Thursday, pushing 10-year yields to a three-week high. This narrowed its spread against US government bonds, where yields have declined as the corona virus has triggered demand for ports.
The pound rallied above $ 1.30 and sentiment on the options markets turned for further gains next month, but beyond that, traders are still betting on weakness. When the sterling rose, the region remained below average on Thursday as the benchmark dominated global exporters.
The new finance minister, who is seen as Johnson's ally, could provide comfort to the markets on a more unified political platform, said Nick Burchett, fund manager at Cavendish Asset Management. Sunak's investment banking background should also benefit the City of London, he said.
However, the main risk for the UK financial sector remains the prospect of losing access to EU markets after the 2020 Brexit transition period. The EU and the UK had been arguing even before negotiations began on banks' ability to operate in the bloc's markets.
"Attitudes towards post-Brexit trade negotiations are somewhat more confused since Javid was a big proponent of the equivalence that may now be off the table," said Valentin Marinov, head of G-10 currency research Credit Agricole (PA 🙂 SA. "The big risk for the Sterling Bulls remains the disappointment with the budget and the upcoming negotiations."
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