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Gilts were on track for their best week since July and the FTSE 100 hit a record high on Friday as a string of weak data weighed on sterling and fueled bets that the Bank of England will cut interest rates more aggressively to initiate growth.
The rise in UK government bonds accelerated on Friday after official figures showed retail sales fell unexpectedly in December, raising the risk of the economy contracting late last year.
The 10-year gilt yield fell another 0.04 percentage points to 4.64 percent in late afternoon trade, bringing its decline to 0.2 percentage points this week. Yields move inversely to prices.
The signs of weakness on the high street follow disappointing November GDP numbers and a lower-than-expected inflation reading in December. The IMF on Friday afternoon forecast a pick-up in UK growth this year, but expansion is still set to be slower than in the US and Canada.
The FTSE 100 rose 1.5 percent, surpassing its previous record in May, helped by a weaker pound. Many of the companies in the blue-chip index are dollar earners, meaning they benefit from a stronger US currency.
“The best news for inflation may be the safe haven assets that the market increasingly feels it needs in the UK,” said Gordon Shannon, a portfolio manager at TwentyFour Asset Management.
Rising expectations of rate cuts to prop up a stagnant economy had made it “easier for foreign buyers to pull back (and buy cash),” Shannon added.
The two-year yield fell 0.03 percentage points to 4.35 percent on Friday, bringing its decline this week to 0.18 percentage points. Sterling fell 0.5 percent against the dollar to $1.219.
“It’s more than pound weakness,” said Luca Paolini, chief strategist at FTSE-listed Pictet Asset Management. “I find the UK attractive as a market,” he added, saying it was “cheap” on a valuation basis and “well diversified.”
Traders now expect interest rate cuts of at least two-quarter points this year from the current level of 4.75 percent and a roughly two-thirds chance of a third cut, according to implied levels in exchange markets.
Despite the rise in the nut market, 10-year yields remained well above the 3.75 percent level they were in mid-September, ahead of a sell-off fueled by both Treasuries and fears that the UK is facing stagflation – where growth the constant rise in prices makes it difficult for the Bank of England to lower rates.
That pushed UK borrowing costs to a 16-year high last week, higher yields attracting a wave of retail investors but also forcing chancellor Rachel Reeves to defend her economic plans to MPs .
Rising borrowing costs have severely curbed the chancellor’s leeway against self-imposed fiscal rules. Major investors have warned that the government may be forced to raise taxes, or cut spending, to maintain credibility with the market.
In an update to its World Economic Outlook, the IMF said on Friday that the UK economy will grow by 1.6 per cent in 2025 – up 0.1 percentage point from the previous forecast and up from 0.9 per cent last year. UK growth will continue at a similar pace of 1.5 per cent in 2026, he said.
The outlook was welcomed by Reeves, who said the IMF forecast suggested the UK would be the fastest-growing “major European economy” over the next two years. “I will go further and faster on my mission for growth through smart investment and relentless reform, and deliver on our promise to improve living standards in every part of the UK,” she said.
But traders betting on a rate cut were encouraged by a speech earlier this week from one of the central bank’s rate-setters that it may need to cut rates five or six times over the next year to support the economy.
Alan Taylor, a member of the Monetary Policy Committee, warned that the latest UK data pointed to “an increasingly bleak outlook for 2025”, as he argued that the central bank needed to take precautionary measures to support the economy with lower borrowing costs.
While expectations for lower rates will provide some relief to the chancellor when it comes to UK government borrowing costs, the accompanying weaker growth prospects could have a negative impact on fiscal forecasts if weakness is judged to be continuous.
The Government’s Office for Budget Responsibility will present its new economic and fiscal outlook on March 26, with the chancellor responding with a statement to parliament.
UK clothing was helped by a tailwind from US Treasuries, which also rose after data showed weaker underlying inflationary pressures in the US economy. That pushed the 10-year Treasury yield down 0.17 percentage points this week to 4.61 percent.
