Gilt yields surged during October

UK Fixed Income

UK gilt yields surged and prices fell in October amid waning demand for sterling-denominated assets. During October, the pound reached its lowest level against the euro since 2011 and its lowest level against the US dollar for over thirty years. Nevertheless, despite the ongoing weakness in the pound, the UK’s trade deficit widened during August: while exports increased by £0.1 billion, imports rose by £2.6 billion.

Uncertainties surrounding the terms of a Brexit deal, combined with mounting concern over the outlook for inflation, have sparked jitters over the UK’s future credit rating. The steep drop in the value of sterling, alongside some better-than-expected economic data, helped to dampen expectations of further monetary easing. Over October as a whole, the ten-year UK gilt yield rose from 0.75% to 1.25%, while the yield on the shorter-dated UK gilt climbed from 0.12% to 0.34%.

The UK economy grew at an annualised rate of 2.3% during the third quarter of 2016. Growth was boosted by a strong contribution from the services sector that helped to offset weaker performance in construction and manufacturing. The UK services sector continued to rally in September following June’s shock referendum result. According to Markit, new business registered strong growth; however, looking ahead, rising input costs continue to pose a threat to profit margins.

Input prices continued their strong rise in September: the Producer Prices Index climbed at an annualised rate of 7.2% during the month, providing further evidence that inflationary pressures are starting to gather. The annualised rate of consumer price inflation surged from 0.6% in August to 1.0% in September, boosted by higher prices for energy, clothing, and hotel accommodation, to reach its highest level for almost two years. Elsewhere, the Royal Institution of Chartered Surveyors (Rics) reported a rally in demand from house buyers during September, although market conditions continue to vary across the UK.