Share prices surged and yields in the United States fell, leading to a ripple effect in global bond markets. Investors responded to the unexpected drop in inflation both domestically and in the U.S., increasing their bets on an imminent interest rate cut next month, followed by another by year-end. As borrowing costs had been on the rise due to dynamics in the U.S., this shift marks a significant change in the economic landscape.
In the UK, borrowing costs for the government have seen a notable decline. This reduction comes as inflation cooled to 2.5% in December from 2.6% the previous month, according to government data showing a decrease for the first time in three months. The drop in inflation has provided the Bank of England with more flexibility to consider further rate cuts, as analysts suggest.
"Government borrowing costs have begun to edge downwards, with the yield on 10-year gilts heading lower, but it remains above 4.8%, at multi-decade highs as investors assess Britain's debt burden." – Susannah Streeter, head of money and markets at Hargreaves Lansdown
The metric indicating the underlying pace of price increases in the U.S. also showed signs of easing, falling unexpectedly from 3.3% to 3.2%. This reduction in inflationary pressure has led to declining yields on key UK government debt, which have now dropped below 4.8%, offering a respite from the heights seen last week when UK bond yields soared to their highest levels since 2008.
The movements in the bond markets underscore a significant shift in investor sentiment as they re-evaluate the likelihood of central banks implementing rate cuts. The yield on 10-year gilts, which had been approaching 4.9%, is now adjusting as investors weigh Britain's debt situation against the backdrop of easing inflation.