Ask Onix
UK bond yields surge to highest levels since 1998
The cost of long-term UK government borrowing has climbed to its highest point in nearly three decades, driven by the ongoing Iran conflict and growing political uncertainty ahead of key elections.
Global bond markets under pressure
Government bond markets across major economies have declined since the escalation of hostilities between the US, Israel, and Iran. This has pushed up borrowing costs for governments worldwide. The Strait of Hormuz, a critical chokepoint for global oil and liquid natural gas supplies, has effectively been closed, sending energy prices sharply higher.
Investors are now pricing in higher inflation and borrowing costs, triggering volatility in bond markets. Over the weekend, markets worsened further on expectations of a prolonged blockage in the Strait of Hormuz.
UK hit harder than other G7 nations
The impact on UK bond markets has been more severe than in other G7 countries. Analysts attribute this to the UK's vulnerability to inflation and recent political instability tied to upcoming local and national elections.
On Tuesday, the yield on 30-year UK government bonds reached a 28-year high, peaking at 5.78%, while the 10-year yield hit an 18-year high at 5.1%. Rising yields increase the government's debt interest costs, adding pressure on Chancellor Rachel Reeves to adhere to fiscal rules.
Political uncertainty adds to market strain
The Labour Party is bracing for significant losses in council seats and faces tough national elections in Scotland and Wales. Speculation about potential leadership challenges has also contributed to market unease.
The government has highlighted improvements in growth, inflation, and borrowing figures earlier this year, before the Iran conflict began. However, UK borrowing for the year to March fell to a three-year low of £132 billion, though analysts warn this could worsen if inflation rises.
Bank of England plays down gilt market concerns
Bank of England Governor Andrew Bailey downplayed concerns about the gilt market in a recent BBC interview, noting the pound's resilience. He suggested that the UK is not uniquely affected compared to other nations, with sterling trading near the upper end of its post-Brexit range.
"If you look at day-to-day movements, what's driving the market is the conflict and commentary around it. The exchange rate hasn't moved much at all. That's one indicator I use to judge whether there's a distinct UK story here. Is the UK different? Not really-sterling is trading at the higher end of its post-Brexit band."
Andrew Bailey, Governor of the Bank of England
Outlook remains uncertain
The 30-year gilt, a niche long-term government debt instrument, is not currently being auctioned by the Debt Management Office (DMO). Last year, the DMO adjusted its debt sales strategy to reduce reliance on this type of borrowing.
Unlike in the US, the 30-year yield does not directly influence common fixed mortgage rates in the UK. However, two- and five-year yields remain elevated, though below their 2023 peaks.
Markets are closely monitoring developments in the Gulf and UK election outcomes, creating a precarious environment for UK government debt.
