UK Budget 2024: what does today’s statement mean for investors?
Schroders' experts analyse Rachel Reeves' Budget speech and explain what the Government's plans mean for investors in UK equities, gilts and the wider UK economy
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The new UK Government has faced an early test in its first Budget. The jury – in the form of bond investors, UK businesses and taxpayers – is still digesting the detail.
Chancellor Rachel Reeves, the first woman to hold the office in its 800-year history, unveiled sweeping plans to borrow more money for investment in services, as well as raising more for day-to-day spending through a range of increased taxes.
Schroders' experts across the fields of economics, UK equities and bonds share their views on what this means for investors.
UK economy: Budget leaves three unanswered questions
George Brown, Senior Economist:
The ask was always going to be tough: Labour had hemmed itself in with pre-election promises, including the controversial pledge not to raise taxes for “working people”.
And so, the Chancellor has had to look far and wide to raise a further £40 billion in tax, the biggest ever in cash terms since at least 1970, surpassing the £38.5 billion haul by Norman Lamont in 1993.
Businesses will bear the brunt of this, with higher National Insurance (NI) bills owing to lower thresholds and higher rates set to bring in £25 billion for the Exchequer.
How employers absorb this additional NI burden remains uncertain. It could well weigh on pay growth, hiring and investment, particularly among employers of lower paid workers.
Still, today’s tax rises will be more than offset by the additional spending announced, such that the Office for Budget Responsibility (OBR) has nudged up its growth forecast for next year from 1.9% to 2.0%.
But this only delivers a temporary boost to growth, with the OBR expecting it to average just 1.6% over the subsequent five years, falling short of Labour’s ambition “to kickstart economic growth”.
This is despite Labour’s promises to significantly raise investment in public services and other projects – all at a point where borrowing levels and costs are high.
To achieve this, the Chancellor has changed the definition of the debt target, a move which will yield an additional £6.8 billion of fiscal headroom.
But this will only leave the Chancellor with some £15.7 billion of headroom, well short of the additional £50 billion that the move was expected to deliver based on the OBR’s March forecast.
For investors, the three unanswered questions which will prove whether Reeve's Budget is ultimately a success are...
- …whether it ends on the squeeze on public services;
- delivers growth and raises productivity;
- puts the public finances on a solid footing.
Outlook for gilts
Thomas Williams, Head of Solutions Trading and Structuring:
Despite the revision higher in the borrowing, we expect gilt markets to remain orderly. However, the market, teed up to be positively surprised, was somewhat taken aback by the large increases in issuance in future years.
The Debt Management Office's decision to focus the increase on long-dated gilts was also puzzling given how the large gilt redemptions in the new year would likely have led to reinvestment flows in shorter bonds.
With the Bank of England’s quantitative tightening sales subdued and gilt issuance already somewhat ahead of schedule, we believe there is room in the market to digest the additional borrowing this year.
We expect continued pension, bank treasury and wealth management buying to be sufficient to support the market.
In the medium term, the Government is still treading a very uncertain path with blockbuster gilt remits projected into the foreseeable future.
The market will be watching closely to see if the Government’s growth agenda is able to deliver a fiscal inflection point and bring longer term stability to the public purse.
Gilt market response - deep dive
Marcus Jennings, Fixed Income Strategist:
In the weeks leading up to the UK Budget, we witnessed substantial gilt underperformance relative to German Bunds, with the spread of 10-year gilts versus Bunds widening to levels not seen throughout 2024.
Some of this underperformance in bond returns can be attributable to the relative performance of the two economies, with the UK outperforming mainland Europe, not helped by the Bank of England still remaining more hawkish compared to the European Central Bank.
However, this was only part of the story. Fears over the Budget, with respect to the level of spending and gilt issuance to a degree, no doubt played a part in driving gilt yields higher in the weeks leading up to the Budget.
This culminated in media speculation that Reeves was planning on changing the measure of national debt to guide the fiscal rules, from net debt excluding the Bank of England’s balance sheet, towards public sector net financial liabilities (PSNFL).
This would essentially free up approximately £53 billion in additional fiscal “headroom”, to be spent primarily on investment.
Going into the Budget, the gilt market was therefore prepared to a degree for an increase in government spending, having been somewhat comforted by a number of news articles hinting Labour were at pains for the Budget to have “guardrails” around spending and for it to be a source of stability.
With the uncertainty of the event now out the way, markets can focus on the policy objectives and fiscal parameters the government has set out today.
Chancellor Rachel Reeves provided few policy surprises today, with many measures flagged ahead of time. Major tax and spending announcements and changes to the fiscal rules (now labelled the investment and stability rule) were for the most part, as expected.
On initial impressions then, the markets likely took some comfort from several factors. Firstly, the tone of the Budget reinforced Labour’s desire for stability and responsible leadership.
Secondly, substantial tax increases to the tune of £40 billion, were announced to help fund the £40 billion funding gap Labour had flagged in advance.
Lastly, the OBR took a broadly positive view on Labour’s investment plans, believing it should boost the supply capacity of the economy, a positive endorsement.
These initial positive impressions were quickly paired back after the Budget as the fiscal realities set in, that is ultimately more borrowing is required by the Chancellor and any supply side benefits from investment would be felt well into the future.
According to the OBR, “Budget policies temporarily boost output in the near term, but leave GDP largely unchanged in five years”.
This admission, together with the additional borrowing forecasted and the OBR expecting the Budget to be slightly stimulatory for the economy in the next fiscal year, took the shine off gilts post the Budget.
Domestic UK stocks respond positively to Budget clarity
Graham Ashby, Fund Manager, UK All Cap:
Markets crave certainty. We saw this in the immediate aftermath of the decisive UK election result which triggered a sharp July rerating of UK domestically focussed stocks and UK small and mid cap (SMID) shares in general.
Then uncertainty around the Budget and speculation about what taxes might be raised to plug a £40 billion “funding gap” intervened.
UK equities appear to be benefitting from some policy clarity following today’s announcements, with gains for shares, notably SMID caps.
There remains scope for UK SMIDs to rerate further following a very unusual decade of them underperforming larger-sized UK-listed companies in the FTSE 100.
There will be much emphasis on what today’s announcements might mean for the UK economy.
While there is relief in certain areas, the increased national insurance which has been placed on employers will be felt longer term by employees, in terms of lower than might have been expected pay awards.
Wider factors driving demand for UK equities at a time of limited supply (dearth of IPOs, management teams buying back shares at a very rapid clip, UK companies relisting in the US, others lost to bids) may prove more consequential, however.
So, the kind of questions we’re presently asking ourselves include whether private investors might switch allocations closer to home due to lagging US technology stocks?
Might further reform to UK capital markets (with speculation turning to the Mansion House speech on 14 November to potentially provide more detail) drive institutional demand?
Or, will other factors prompt investors to acknowledge the superior historic earnings growth delivered by UK mid caps (see table, below).
These are the considerations we’re focussed on, while also realising equity investing always carries risks, and shifts in markets don’t follow an exact science.””
Inheritance tax relief on AIM shares only partially scrapped
Graham Ashby, Fund Manager, UK All Cap
AIM shares in particular are reacting positively to the news that the relief from inheritance tax has been only partially abolished.
Prior to the Budget, there had been rumours that the full 40% rate of relief would be scrapped; instead, there will be a 20% rate.
This is a more favourable outcome than had been feared although, again, the factors currently affecting the UK’s capital markets are much broader than tax reliefs and stem from a lack of demand.
Pressure on UK small caps, whether on AIM or the Main Market, has been particularly acute due to the rise of passive investing.
Many passive portfolios in the UK seek to replicate the returns from the FTSE All-Share index, with is heavily weighted towards larger-sized companies in the FTSE 100. In contrast, actively managed UK portfolios typically invest greater amounts in SMIDs and these funds have seen material fund outflows for several years.
All of this means we’re most focussed on the supply and demand imbalance in the UK equity market, which, currently reflecting very high levels of fear, suggest an opportunity.”
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