In the absence of US market activity due to Thanksgiving, UK and European stock indices are generally experiencing a slight decline this morning. The emphasis continues to be on the analysis of the UK budget aftermath. This morning, UK bond yields have risen, with Gilts lagging behind their European counterparts following a significant drop on Wednesday. The pound is currently the least performing currency within the G10 FX landscape on Thursday, as it relinquishes a portion of the gains achieved on Wednesday. Currently, GBP/USD is positioned above $1.32, maintaining its status as the third best performing currency within the G10 FX landscape this week. Overall, the bond market responded positively to Rachel Reeves’ budget on Wednesday. The £22bn fiscal buffer suffices to reassure bond markets, which are prepared to overlook the anticipated rise in borrowing in the forthcoming years relative to the OBR’s previous estimate. The fiscal risk premium is diminishing in UK yields, despite the current underperformance of Gilts. The 30-year UK yield is nearing the 5.2% mark, as the pre-budget concerns that had driven yields higher in recent weeks begin to unwind. Nonetheless, UK long end Gilt yields remain over 50 basis points elevated compared to their levels from a year prior. Should the fiscal risk premium decline following this budget, attributed to an expanded fiscal buffer and enhanced political stability relative to recent months, we can anticipate that UK Gilts will maintain their outperformance and yields will persist in their downward trajectory.
We do not anticipate that this will result in a significant depreciation of sterling. The chart below illustrates the relationship between GBP/USD and the 30-year Gilt yield, both normalized for comparative analysis. It is evident that sterling has experienced a downward trend as long-term yields increased over the summer months. Recently, GBP/USD and Gilt yields have exhibited divergent movements. Consequently, should yields decline due to a diminished fiscal premium, this may elevate the pound back to its previous highs of £1.35 against the USD. In other developments, while US markets remain closed for the Thanksgiving holiday, the sentiment surrounding the markets has shifted in recent days as we progress through November. For the current month, the S&P 500 has decreased by 0.4%, the Nasdaq has seen a decline of 2.15%, the Eurostoxx index has fallen by 0.16%, and the FTSE 100 has dropped by 0.48%. Nevertheless, a notable recovery has occurred following significant losses at the beginning of this month, as global indices have experienced a marked increase over the past week. Over the last 5 days, the S&P 500 has increased by 2.5%, the Nasdaq has risen by 2.8%, and the FTSE 100 has climbed by 1.5%.
Three factors have contributed to the stabilization of markets in recent weeks: 1, enhancing the likelihood of rate reductions from the Federal Reserve and the Bank of England, 2, a revitalized AI sector spearheaded by Google, has seen its share price increase by 20% over the past month, alongside significant gains in the wider market. Lastly, there is relative political stability now that the US Federal government has resumed operations. The probability of a Federal Reserve rate cut next month stands at 80%, while the likelihood of a reduction by the Bank of England is at 90%. This suggests an expectation of a more accommodative monetary policy in the near term. The 20% increase in Alphabet’s shares may experience a correction, given the magnitude of this movement. Nevertheless, despite the possibility of a downturn in Alphabet’s share price and Nvidia’s 5% drop over the past month, the AI trade does not represent the sole narrative in the stock market as we approach the final month of the year.
The most significant gainers on the S&P 500 over the past week include DR Horton, Black & Decker, Delta Airlines, and Ralph Lauren. Additionally, the equal-weighted S&P 500 has surpassed the performance of the market-cap weighted S&P 500 since mid-November. This represents a significant transition, and an expanded breadth in the US stock market is favorable for equities and investors alike.