U.K. government bond yields fall as labor data indicates potential rate cut

The U.K. government bond yields experienced a significant decline on Tuesday following the release of softer-than-expected labor data. Investors now anticipate that the Bank of England will implement an interest rate cut by the middle of next year.

According to the Office for National Statistics, wage growth in the U.K., excluding bonuses, stood at 7.3% during the three months leading up to October, which is lower than the 7.4% forecasted by economists. It also marks a decrease from the previous month's reading of 7.8% growth.

Furthermore, job vacancies have declined by 45,000 between September and November, reaching a total of 949,000. This decline represents the 17th consecutive quarterly fall and the longest recorded period of quarterly decreases, indicating a cooling job market.

Darren Morgan, ONS Director of Economic Statistics, stated that while there is still strong annual growth in earnings in cash terms, there are signs suggesting a potential easing of wage pressure overall.

The Bank of England's upcoming monetary policy meeting, scheduled for Thursday, will likely welcome the slower wages growth. It is widely expected that the bank will maintain its main interest rate at 5.25%.

As a result of this labor data, policy-sensitive 2-year gilt yields experienced a significant drop of 13.5 basis points to 4.470% on Tuesday. Market participants have now priced in a 25 basis-point interest rate cut by June and anticipate a further reduction of nearly 90 basis points by 2024, up from the previous prediction of 75 basis points prior to the release of the jobs data.

U.K. Inflation Remains High, Posing Challenges for Bank of England

As U.K. inflation continues to hover at 4.6%, well above the Bank of England's desired target of 2%, Governor Andrew Bailey is expected to take action and manage market expectations. Experts believe that he will attempt to "rein back market expectations of an interest rate cut early next year." This insight comes from Derren Nathan, head of equity research at Hargreaves Lansdown.

Analysts, such as Patrick Munnelly from Tickmill Group, caution against a dovish pivot by the BOE. They note that while there has been some relief in employment market pressures and wage growth has slowed, it is important to remember that wage gains still exceed the necessary levels for sustaining the inflation target.

Despite these challenges, the London stock market received support with falling U.K. government bond yields. The FTSE 100 UK:UKX outperformed other European markets, gaining 0.4% in response.

The positive response from the market was particularly noticeable in the more domestically focused FTSE 250 index. It experienced a considerable jump due to today's jobs data. Additionally, the FTSE 100 saw a rise driven by companies that stand to benefit from a lower U.K. interest rate. These include housebuilders, retailers, and property groups, as noted by Danni Hewson, head of financial analysis at AJ Bell.

Meanwhile, the DAX DX:DAX in Frankfurt, which had experienced a 7.5% increase in just one month, fell by 0.2%. The CAC 40 FR:PX1 in Paris, on the other hand, remained relatively unchanged throughout the day.