Given the news today that inflation has crept up to 3.6% in June after coming in at 3.4% in May, there’s plenty for advisers and investment strategists to ponder. Will the Bank of England step back from an expected rate cut in August? What about the implications for the gilt market?
Dan Coatsworth (pictured), investment analyst at AJ Bell, has shared his comments with us on these latest UK inflation figures as follows:
“There is a real threat of stagflation as the rate of inflation moves higher and the economy is stuck in the mud. It puts the Bank of England in a tricky situation with regards to monetary policy decisions.
“Interest rates shot up between 2022 and 2023 to fight off the rapid rise in inflation. The central bank then began its journey in August 2024 to bring rates back down and markets were expecting the cost of borrowing to fall to 3.75% later this year. If the return of higher inflation becomes a trend, then the Bank might find it hard to keep lowering rates at a decent clip.
“As it stands, the market expects an 81.9% chance of a rate cut in August, but there is a lot less confidence in future cuts. The latest inflation figures might encourage the Bank to sit on its hands and wait for more data to see if the spike in the cost of living is only temporary. However, its rate decisions are also influenced by what’s happening in the jobs market and the outlook is far from rosy.
“Plenty of companies are feeling the pressure of extra employment-related costs and they’re reluctant to hire new people when someone leaves; others are already cutting positions. This means the Bank is stuck between a rock and hard place. It suggests that the Bank might adopt a slowly, slowly approach to rate cuts, bringing them down gradually rather than the rapid pace which many had expected earlier this year.”
When it comes to the gilt market and why parts of it may need to adjust, James Flintoft, head of investment solutions at AJ Bell, says:
“The persistence of inflation above 3%, well ahead of the Bank of England’s 2% target, further highlights the risk that higher inflation is here to stay, and parts of the gilt market need to adjust.
“This comes at a time when there are widespread concerns over the UK’s fiscal path, with the Mansion House speech last night providing little clarity on the situation ahead of the Autumn Budget. On top of that, a recent report from the Office for Budget Responsibility highlighted that UK pension schemes, typically a strong supporter of the gilt market, are expected to be selling gilts over the next decade, adding upward pressure to gilt yields*.
“Investors holding gilts to protect their portfolios in times of market volatility may need to check they hold the right part of the gilt market. AJ Bell’s funds use a combination of shorter dated gilts and US Treasuries to combat the risk that longer dated bond yields need to move higher, meaning bond prices fall to compensate investors for inflation and fiscal uncertainty. We also hold shorter dated US TIPS (Treasury Inflation Protected Securities) to help offset inflation in the US, which is also above target and showing the first signs of upward pressure from President Trump’s tariffs. In addition, we use a broader range of government bonds in emerging markets to add diversification.
“Being diversified in equity markets has been a key theme so far in 2025, but it may be that diversification in bond markets proves to be just as important in the years ahead.”
*Source: OBR – Fiscal risks and sustainability report (July 2025)
