Gilt yields plunge after Brexit vote

UK Fixed Income

UK gilt prices surged during June, boosted by an unexpected triumph for “Brexit” in the referendum over the UK’s future membership of the European Union (EU). Sterling and gilt yields fell sharply amid renewed expectations of lower interest rates. Over June as a whole, the yield on the ten-year UK gilt plunged from 1.56% to 1.00%, while the yield on the shorter-dated gilt – maturing in 2018 – dropped from 0.43% to 0.11%.

Following the result, Bank of England (BoE) Governor Mark Carney indicated that the likelihood of fresh monetary easing had increased. Whilst acknowledging that that further easing would bring its own risks, he emphasised that monetary policy alone could not “fully offset the economic implications of a large negative shock”. Nevertheless, he tried to reassure investors, saying: “The question is not whether the UK will adjust, but rather how quickly and how well.”

Credit ratings agency Standard & Poor’s (S&P) cut the UK’s rating from “AAA” – signifying the highest quality – to “AA” and warned that the Brexit vote could lead to “a deterioration of the UK’s economic performance, including its large financial services sector”. Meanwhile, Fitch cut its rating from AA+ to AA and warned of “an abrupt slowdown” in short-term economic growth. Fitch also believes that medium-term growth is likely to be affected by “less favourable terms for exports to the EU, lower immigration and a reduction in foreign direct investment”. Elsewhere, Moody’s downgraded its credit rating outlook for the UK from “stable” to “negative” in response to the result. Moody’s believes that the fiscal savings resulting from the UK no longer having to contribute to the EU budget will be outweighed by the negative impact of lower economic growth.

The UK’s rate of unemployment eased to 5% between February and April, reaching its lowest level since October 2005. The number of unemployed individuals fell by 20,000 to 1.67 million during the period. Average earnings (excluding bonuses) rose at an annualised rate of 2.3%. However, Brexit is widely expected to lead to a slowdown in hiring as companies review their investment plans. A survey by the Institute of Directors of 1,000 companies found that 24% of firms intend to freeze recruitment, while 5% will make redundancies. Nearly two-thirds of respondents regarded the Brexit outcome as negative for their business, compared with 23% who viewed it as positive.