Bond Watch: what could Andy Burnham mean for bond investors?

Prime Minister Andy Burnham at No 10 North last month in Manchester. Photo: James Speakman - WPA Pool/Getty Images.

Few incoming prime ministers have been watched as closely by the bond market as Andy Burnham. 

Prior to his ascension to Downing Street on 20 July, his remark that Britain should not be “in hock” to the bond market saw gilt yields move higher.

The 10-year gilt yield ended July above 5%, having risen steadily from nearer 4.6% in early/mid June – although this is more reflective of wider macro events and mirrors closely trends in US and European government bonds.

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Just over two weeks in, with a confirmed chancellor replacing the outgoing Rachel Reeves and a Budget confirmed for 28 October, it is worth asking what has really changed for Sterling bond holders. 

Early commitments and market expectations

The politics of Burnham at first glance appear fairly straightforward: a bigger state, funded by some combination of higher borrowing and higher taxes on wealth and property (and some relief for lower earners). Growth will be driven by devolution from London, and targeted reindustrialisation. 

The agenda alluded to so far supports that doctrine. 

Burnham has talked of the largest council house-building programme in the post-war period and bringing forward the Casey Report to reform social care. 

Commitments have also included consumer-facing support: VAT removed from household electricity bills in October, a bus fare cap, and business rates relief for pubs, clubs and live music venues. 

The Organisation for Economic Cooperation and Developement (OECD) projects UK output to expand by only around 0.9% this year, while Purchasing Managers’ Index (PMI) data continues to disappoint in Q3. 

Burnham’s answer to the UK’s growth quandary points towards devolution - pushing spending powers, and potentially a share of income tax receipts, out to regional mayors – alongside reindustrialisation, with investment in housing, energy and defence intended to lift growth beyond just the capital.

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While turning policy into reality is no small feat and details are yet to follow, the new PM has been relatively committed to these points.

For bondholders, there’s cause for both excitement and concern.

If these principles work, faster nominal growth is the most comfortable route to stabilising and tackling the debt burden and would be supportive for gilts over time.

But the pay-off is slow and uncertain, while the borrowing arrives immediately. 

Bond markets care less about the merits of a spending programme than about how it is paid for, and that is where the questions sit.

Fiscal policy realities

Beyond the commitments and higher-level priorities set out, we will have to wait for autumn to have a clearer view of critical fiscal policy decisions. 

Fiscal headroom - the amount the government can borrow or spend while still meeting its own fiscal rules - is already tight. 

The Spring Forecast revealed a roughly £24 billion buffer at the time – but since then we’ve seen more energy shocks and defence commitments which may have diminished this. 

Revenue raising and expense cutting to remain within fiscal limits would be a challenge for any incoming PM and chancellor.

Burnham has surprised markets with a relatively prudent choice of chancellor, John Healey, the former economic secretary and then financial secretary to the Treasury under Tony Blair and Gordon Brown who is commonly seen as less interventionist than others (Ed Miliband or Shabana Mahmood). 

However, it’s worth noting that Healey resigned as defence secretary in June citing the need for bigger spend.

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Also quieting the market’s initial response is Burnham’s commitment to honouring the manifesto pledges on income tax, VAT and National Insurance rates, and to the fiscal mandate requiring day-to-day spending to be met by receipts by 2029-30. 

That is a meaningful constraint, and a reason why the market reaction has been contained rather than disorderly.

Burnham has himself conceded that the idea of providing relief to lower earners via raising personal allowance thresholds (still £12,570) would be expensive, and while he has hinted at more taxation in the past, his commitment to Labour’s existing manifesto narrows his available options. 

Burnham hasn’t proposed a 50p income tax rate, nor is the removal of council tax and stamp duty to replace with a property levy a confirmed policy at this point. So, we have to wait and see what revenue-raising policies materialise.

Cryptically, Burnham has talked up “flexibility” within these rules, the extent of which remains to be seen and will be closely watched by investors. 

Awaiting the Budget

We believe the investment case for gilts as tax-efficient investment remain intact.

While gilt yields are very unlikely to return to pre-2022 levels, politics and government borrowing is far from the only driver of gilt returns and the trajectory of interest rates is uncertain. 

Recently the Monetary Policy Committee (MPC) held the base rate at 3.75%, by a 6-3 vote, with three members favouring a hike. 

While the effects of the supply-side pressure imposed by the Iran war could threaten a prolonged scenario of higher-for-even-longer interest rates, falling inflation (YoY CPI fell to 2.6% in June) and a weakening domestic demand/labour picture could see interest rates continue the move downwards. 

That could in turn could support gilt prices. 

As matters stand, expected real yields are positive with nominal yields exceeding CPI expectations, accepting the expectations could change quickly based on outcomes in the Gulf.

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In all, much could change for longer-dated issuances in the run-up and aftermath of the October Budget as markets will come to review fiscal positioning and the policy proposition laid out by the new leadership. 

If the Budget delivers a conservatively costed package with an Office for Budget Responsibility (OBR) forecast behind it, the fiscal (and political) risk worrying gilt investors may subside. 

For sterling corporate bonds, sector-specific readthrough will be needed as policy evolves and support for industries such as defence and construction materialises. 

If growth assumptions and savings are seen as optimistic, long-dated yields especially may rise quickly. 

Meanwhile, short-dated gilts may lessen investors’ exposure to the yet-unanswered fiscal credibility questions surrounding Burnham and his team - although of course they expose the expanding retail ownership base to reinvestment risk should rates come down in future.