“Oh no they won’t, oh yes they will…”

As we reach mid-January you could be forgiven for thinking that this pantomime phrase would now be redundant. When it comes to whether central banks, particularly the Bank of England, will cut interest rates or not, apparently not. In the UK this week we saw the release of the eagerly awaited inflation figures for December. Whilst a lagging indicator they remain the centre of attention. For those hoping for an interest rate cut by the Bank of England there was good news here. Consumer price inflation took a surprising dip, posting a year on year rise of 2.5%. This was lower than the November reading and the consensus forecast of 2.6%.

Core inflation also surprised to the downside, with a rate posted of 3.2%, well below the November reading of 3.5% and the consensus forecast of 3.4%. A fall in inflation within the service sector was the key driver here, where up until now sticky inflation has been evident. Accompanying this was the release of weaker than expected retail sales data for December. Month on month a decline of 0.3% was recorded compared to a consensus forecast increase of 0.4%. The year on year rate of growth was therefore lower than expected, at 3.6% versus an expected 4.2%. GDP figures meanwhile showed that the economy grew 0.1% in November, 1.0% year on year.

As a consequence we have seen some fluctuation in interest rate expectations, as indicated by the Bank of England Overnight Index Swap (OIS) curve. Concern over the budget deficit and the potential for a pick-up in inflation had initially seen a reduction in expectations for interest rate cuts in the first couple of weeks of 2025. Indeed, just before this data was released there was an expectation that only two cuts may be seen. The market is now edging back towards the potential for three. The expectation that the first cut will happen in the next week or so has also increased.

The reaction from UK assets has been clear to see. After reaching a disconcerting closing level for some of 4.885% on Monday, the UK 10-Year Gilt yield has retraced to 4.6835% at the time of writing. The FTSE 100 hovers around all-time highs, almost 3.3% higher than last Friday’s close, whilst the more economically sensitive FTSE 250 mid-cap index is up over 4.3%.

The year to date has certainly proven to be a period of RO-RO, risk off-risk on. More to come?

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