Markets are cheering Liz Truss’ resignation as the pound extends gains. ‘It’s positive for both the pound and gilts in the long run’

Sterling jumped more than 1% to trade past $1.13. The yield on 10-year bonds fell 5 basis points to 3.83%. Truss said that the UK Tory leadership vote would be completed in a week, although Chancellor of the Exchequer Jeremy Hunt won’t stand to be Conservative Party leader, according to a spokesman. 

Truss’ premiership had looked increasingly untenable since Hunt abandoned the majority of pledges set out in his predecessor’s growth plan. That initial mini-budget sent the pound to a record low and triggered an historic sell-off in gilts as investors fretted over a deluge of supply and the ramifications of the government’s strategy. 

“Short-term political uncertainty aside, it’s positive for both the pound and gilts in the long run because this episode will remind every candidate in the future to not undermine the credibility of the government by making outlandish spending plans,” said Rishi Mishra, an analyst at Futures First.

Focus is now turning on who might next be leader, with candidates likely to include former Chancellor of the Exchequer Rishi Sunak, who claimed during the leadership contest that his opponent’s fiscal measures would push Britain’s economy to the brink of collapse. 

“If we get someone like Sunak in charge, given his finance background, his banking background, he would be viewed as positive and you’d probably see gilts and sterling rally at least in the very short term,” said Brad Bechtel, FX strategist at Jefferies.

Policy Reversal

Traders on Thursday also pared bets on the pace of Bank of England rate hikes. They now see 164 basis points of rate rises by year-end, compared to 173 basis points at Wednesday’s close. Traders have been reducing their bets on more aggressive tightening since the government began rolling back its more expansive stimulus. 

The administration has already reversed most of Truss’ vast unfunded tax-cut pledges, curbing volatility in the gilt market and helping the pound to recover to levels seen before she unveiled her mini-budget in September. Her resignation could help cool nerves further as investor await clarity on the projected size of the budget deficit.

Senior Conservative lawmaker Graham Brady said a new leader will be in place ahead of the slated announcement of the government’s medium-term fiscal plan on Oct. 31. The BOE will also be holding its next rate decision in early November, where the added uncertainty over the stimulus plans will compound the central bank’s task of taming inflation running at more than 10%. 

“We still have a lot of uncertainty in the UK, we need to know who the new leader is we need to understand what their plan will be and we need to see how the BOE reacts to it,” said Bechtel at Jefferies.

–With assistance from Naomi Tajitsu and James Hirai.