Jupiter’s Richard Buxton: Rishi Sunak as Prime Minister brings stability after chaotic month for UK assets

Sterling has rallied and UK gilt yields have fallen back to the levels prevailing before then-Chancellor Kwasi Kwarteng’s disastrous Budget. 

Future students of economics and politics will analyse for years the extraordinary series of events which unfolded in Westminster during the course of this year.

Months of revelation after revelation about ‘Partygate’ to Boris Johnson’s reluctant resignation in the face of waves of ministerial resignations seems an age ago. 

The unedifying spectacle of a divided Conservative party striving to wrest the direction of the political agenda to the right with Liz Truss’s election has proved untenable.

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Kwarteng’s cavalier attitude – demonstrated by his sacking of the highly respected senior Treasury official, Sir Tom Scholar, and his refusal to submit his Budget to the scrutiny of the independent Office for Budget Responsibility – did not land well with markets confronted with billions in unfunded tax cuts and offered no medium-term plan to see government debt to GDP ratios fall.

Truss could not survive the market’s reaction to her policy plan, nor her second Chancellor Hunt’s unwinding of the majority of Kwarteng’s plan. 

It will be fascinating if future historians can shed any light on exactly what advice was offered to the authors of ‘Trussonomics’ or, if none was taken, on what basis they felt this would be received positively by financial markets.

But the nightmare few weeks are over.  Prime Minister Sunak has appointed a Cabinet reflective of both left- and right-wing elements of the Conservative party, urging unity in the face of an economic crisis and retaining Jeremy Hunt as Chancellor.

His first task is a more detailed Budget, now confirmed for November 17.  Despite the Chancellor’s rescission of the swingeing tax cuts, it is clear that the public finances are not in good shape.  Tax revenues have to rise yet public spending must also be restrained. 

Promised levels of spending on infrastructure and defence may well be pushed to the right in terms of timing.

It is almost inevitable that not a single voter will welcome the outcome of this Budget – but right now the confidence of financial markets comes ahead of the electorate. 

Soaring interest rate expectations after Kwarteng’s Budget mean mortgage holders face material increases in interest payments when refinancing fixed term mortgages in the coming eighteen months.  This, of course, on top of the rising cost of living and government assistance with higher energy prices this winter.

Housebuilders have already signalled falling website traffic and reservations in the light of higher mortgage rates. 

Their share prices now discount substantial falls in the volumes of houses sold next year alongside lower house prices.  There are very real concerns that Buy-to-Let landlords, buoyed by years of low interest rates will turn forced sellers of properties into a weaker market due to higher mortgage rates.

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Hence it is important that the Budget – and the OBR’s assessment of it – are taken as prudent and credible by financial markets. 

If so, whilst the Bank of England is bound to still raise interest rates at its next meeting, interest rate expectations can continue to recede – and mortgage rates too.

It is expected that the UK will enter a recession, though it has essentially neither grown nor shrunk for several quarters now.  But despite the cost of living crisis, the tightness of the labour market means it is unlikely we see any early substantial rise in unemployment. 

Employers are still raising pay rates, offering vouchers and discounts to retain existing staff.  They are unlikely to turn on a sixpence to mass firings.

So, the more the government under PM Sunak can reassure markets and businesses that public finances can be managed soundly without prompting a steep downturn, the less severe any such recession may turn out to be as interest rates will rise less.

Sterling is cheap on any reasonable Purchasing Power Parity basis.  The UK stock market trades at a significant discount not just to other markets but to its own long-term historical averages.  This may well be understandable in the light of the extraordinary developments in Westminster in recent weeks.  But a corner has been turned this week in repairing the government’s standing with investors, and for that one can only be grateful.

Richard Buxton is a portfolio manager at Jupiter Asset Management