The recent resilience in economic activity and stubbornness of inflation is raising market rate expectations, gilt yields, UK equities and the pound. And there is a growing risk that interest rates rise above 4.50% and/or stay high for longer. But we think it’s only a matter of time before the rise in interest rates already seen takes a heavier toll on activity and causes the recent rally in the pound and equity prices to reverse. If this economic weakness happens and successfully tames inflation, it should pave the way for interest rates to be cut further than investors currently anticipate in 2024. That explains why we expect 10-year gilt yields to decline from 3.70% now to 2.75% by the end of 2024 and to 2.50% by the end of 2025. And the end of a recession should enable the FTSE 100 to climb from 7,300 at the end of 2023 to around 9,000 in 2024 and the pound to climb back from $1.12 to $1.25.
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