ABN AMRO economists Bill Diviney and Larissa de Barros Fritz examined the economic and market consequences of UK Prime Minister Keir Starmer’s resignation, focusing on the prospect of Andy Burnham succeeding him. Their assessment centres on a more left-leaning, redistributive policy direction, with measures aimed at easing cost-of-living pressures for low-income households and the funding expected to come from higher taxes on the wealthy.
From a markets perspective, the analysis anticipates continuity in fiscal policy. Burnham is expected to broadly adhere to existing fiscal rules, implying a low probability of a “Liz Truss”-style confrontation with bond markets and limited disruption for gilts. Under their base-case scenario, the UK remains on a fiscal consolidation path, with the budget deficit projected to fall from 5.2% in 2025 to about 3.5% in 2026/27.
Gilt And Currency Markets Outlook
Given the expected transition to an Andy Burnham-led government, we see the market pricing in excessive political risk. Unlike the turmoil of late 2022, where 10-year Gilt yields spiked over 100 basis points in days, we anticipate a commitment to fiscal consolidation. This suggests implied volatility in the Gilt market is too high, making selling options on SONIA or Gilt futures an attractive strategy.
We believe the pound sterling, which has softened to around 1.25 against the US dollar amid the uncertainty, is poised for a recovery. A stable fiscal path would reassure investors and complement the Bank of England’s recent success in bringing inflation back towards its 2% target. We are considering buying near-term GBP/USD call options, anticipating a return to the 1.28 range seen last month once the new government’s moderate fiscal stance becomes clear.
Sector Rotation In Equity Markets
In the equity markets, we expect a clear divergence between sectors. Proposed tax rises on the wealthy could create headwinds for luxury goods and wealth management firms, while support for lower-income households should benefit consumer staple and discount retail companies. Considering recent ONS data showing a 1.5% rise in discount retail sales volumes last month, we see value in setting up pair trades, for instance, by going long on a basket of consumer-focused stocks against a short on luxury brands via options.
