Today's Markets: Sterling steadies, but worries remain

What to do with a 33-pt lead? Labour has opened up a stunning lead in the polls since Liz Truss became prime minister: quite apart from the economic or market fallout from the Budget, the political ramifications have been enormous. Kwarteng has engineered a political crisis for the Tory party that was totally unnecessary. Sometimes you must make hard choices that are unpopular; but perhaps not when there is an election less than two years away, you’re twelve years in power and there is a generational inflation problem that requires the opposite of what you would like to do. 

Sterling recovered its Budget losses, GBPUSD briefly rallying to 1.12 as the max bearishness of the weekend and start of the week subsided. Traders were covering shorts as the BoE’s emergency bond-buying intervention and plans by the OBR to bring forward the publication of fresh economic assessments eased the immediate concerns of a run to parity. Nevertheless, the pound remains susceptible to further lurches lower as neither of the above fix the underlying problems facing the UK: rising twin deficits, soaring inflation that hits consumers, rising mortgage rates that cripples families, anaemic growth, etc, etc.

And the fact that certain commentators point to sterling rallying as ‘proof’ that all is fine (it’s recovered its losses since the Budget but the MSM won’t tell you that!), and the criticism of the Budget is a plot of the woke left, is just plain stupid; and they know they it. Cable at 1.12 is not a status symbol. Moreover, the value of sterling really does matter in an import-dependent nation – weakness makes inflation worse (why central banks should be focussing on currency stability as much as rate hikes to control inflation). And it’s not just ‘dollar strength’ - everyone has become a market commentator in the last week… they need to wonder why is the dollar so strong and what countries might do about it – wrecking fiscal credibility when you are not the global reserve currency is not an option. And it’s not to blame the new government for the spendthrift policies (shutting down the economy and paying people to do nothing for the sake of a common respiratory illness that only affected the very old or very sick) of the previous regimes that got us here; but failing to understand where we stand and what the new monetary policy regime means. 

I hope this is the bottom for sterling and the market recovers - I am just not confident it is, and I worry what might happen still in gilt markets, especially once the BoE intervention runs out in a few days. And where are the supply side reforms? People keep talking of these – tax cuts are not supply side reform, it’s about boosting demand – when there is an inflation crisis and the Bank of England has said that inflation is the biggest risk to growth.  

Fresh economic data this morning only underlines the scale of the challenge facing the UK: now the only G7 nation whose economy is still smaller than it was before the pandemic. GDP in Britain is still 0.2 per cent below where it was before Covid hit, revised down from 0.6 per cent above. The good news – for the sake of balance here – is that GDP rose 0.2 per cent in the second quarter, up 4.4 per cent annually, above consensus expectations.

Meanwhile the OBR – which will publish forecasts on 7 October now – has been in an ‘emergency’ meeting with Truss and Kwarteng. This is quite unusual and probably means they’re being pressured – the OBR produces forecasts, it is not an executive body and therefore there should be no need for emergency talks. 

Volatility persists

Stock markets are firmer this morning but coming off low levels following yesterday’s decline. The FTSE 100 added 30pts or so to regain 6,900. US markets fell again, with the S&P 500 down more than 2 per cent as it struck a fresh 2022 low. Futures point to a higher open. Gilts remain steadied by the BoE’s hand, with the 10yr hovering around 4 per cent and 30yr below this level. US 10yr yields moved sharply lower to 3.7 per cent having hit 4 per cent this week. The tumult in global bond markets continues and until it settles – i.e. until the Fed decides it’s done enough – the bottom won’t be in for stocks.

German inflation soared to a record high 10.9 per cent; China’s manufacturing activity grew in September; Fed officials are making it clear through a series of speeches and interviews this week they are not dissuaded from keeping the foot on the hiking pedal.  

Today: Eurozone inflation flash estimates are due at 10am. Later PCE inflation data from the US – are there signs of cooling? Plus some more Fed speakers. 

Neil Wilson is the Chief Market Analyst at markets.com