Recent commentary on the gilt market has drawn striking parallels to the turmoil experienced during the Liz Truss administration in late 2022. That period, marked by severe price dislocations and yield volatility, underscored the risks of fiscal imprudence amid tightening global monetary conditions. The fiscal shock of the Truss “mini-budget,” which proposed unfunded tax cuts alongside increased public spending, disrupted market confidence. The policy framework, rooted in Keynesian principles effective during the era of ultra-low interest rates, proved untenable in 2022, when central banks globally were reversing years of monetary accommodation. The Financial Times aptly noted that the crisis left “etches into the psyche of gilt investors,” a reminder of the systemic fragility exposed by abrupt fiscal and monetary policy shifts. The 2022 gilt market crisis was exacerbated by structural vulnerabilities, particularly in the widespread use of liability-driven investment (LDI) strategies by pension funds and insurers. Surging gilt yields triggered margin calls in the derivatives, forcing institutions into distressed asset sales to meet liquidity requirements. This deleveraging cycle intensified the market rout until the Bank of England (BoE) intervened on September 28, 2022, with emergency bond purchases. A fiscal reversal led by Chancellor Jeremy Hunt further stabilized conditions, albeit at the cost of policy credibility. The scale of the crisis was stark: UK 10-year gilt yields rose 290 basis points (bps), far exceeding the 150-bps increases seen in US Treasuries and German Bunds. The rapid repricing overwhelmed market participants, while sterling depreciated by 12% against the dollar and 7% against the euro, compounded by speculation that the BoE’s mandate might be altered—a move that would have further undermined investor confidence. The 2022 period underscored the critical importance of fiscal sustainability. Persistent deficits remain fundamentally a spending issue; taxation (and tax cuts!!) cannot indefinitely support structural fiscal expansion. The 2022 episode reaffirmed a long-standing market principle: deficits matter, particularly after years of suppressed sovereign yields facilitated by unconventional monetary policies. The Office for Budget Responsibility (OBR) and Bank of England did not stand in Liz Truss way. The winds simply changed direction, and the Prime Minister's tenure lasted a mere 49 days. The much-discussed 'Trussonomics' never truly got off the ground. While I have not yet had the chance to read Truss’s book, it is evident that she failed to convince investors of the credibility of her economic plan. This was particularly critical in a context where the UK now stands alone lacking both a reserve currency, such as the dollar, and the structural support provided by the European Union. Today, UK government bond yields have surpassed their 2022 crisis levels, with the 10-year gilt yield at 4.85% and the 30-year yield at 5.40%. These are the highest levels since August 2008 and, for long maturities, since the late 1990s. However, the current yield rise has unfolded over a more protracted period, reflecting a fundamentally different market context from 2022 (the yields in 2022 started to rise even during the Mini-Budget statement, and single days, like 27 September, left an enduring mark). Notably, LDI strategies, which exacerbated the Truss dislocations, have been significantly de-risked, reducing the potential for forced liquidations. Despite elevated yields, today sterling remains subdued, trading at 1.2250 against the dollar, down from 1.26 in December 2024. The pound behaved better against the euro, another weak currency. While gilt price movements have broadly mirrored trends in US Treasuries German Bunds, and French OATs, persistent concerns about the sustainability of UK public finances continue to weigh on sentiment. In both 2022 and the current environment, rising gilt yields coincided with debates over the Bank of England’s quantitative tightening (QT) program. The 2022 crisis temporarily delayed QT implementation, but the BoE has since resumed its asset sales unabated. According to its September 2024 monetary policy summary, there is “no evidence of adverse impacts on market functioning”, with “noted improvements in gilt market liquidity”. However, a November 2024 working paper highlighted the sensitivity of yields to unexpected QT operations, estimating impacts ranging from 20 bps during normal conditions to as much as 120 bps under periods of market stress. This underscores the importance of transparent and well-communicated QT strategies to minimize unintended consequences. There is anyway an acknowledgment of certain risks in the execution of balance sheet reduction. The UK’s current fiscal policy proposes £40 billion in tax increases and additional public spending; the last one front-loaded. Government forecasts suggest a 2% GDP growth in 2025 (driven by Government consumption), though independent analysts estimate this figure could be overstated by as much as 40-50%. The implications for gilts are significant, particularly as fiscal projections remain a key input for term premium assessments. The sluggish performance of the UK economy at the end of 2024 offers little clarity regarding strong GDP growth in the coming years, leaving the outlook uncertain. Any active fiscal stance is encountering a significant challenge: the pursuit of major investments and the preservation of fiscal credibility appear fundamentally incompatible. Inflation-adjusted, the volatility experienced during the Truss crisis pales in comparison to the current widening in gilts rates. I do not know if today’s bond market turbulence stems from the recent fiscal measures or concerns about the macro space. It could reflect a broader recalibration of term premia as markets re-adjust to the long-term implications of higher sovereign borrowing costs and large-scale bond issuance (in UK this is calculated around 130 billion over the next years and there is a big difference with the past levels of gross issuance). Crucially, the divergence between market behavior and theoretical yield models indicates that existing frameworks may significantly underestimate both the calculation and the magnitude of term premia along the yield curve—a new phenomenon observed on a global scale. This observation remains highly relevant today and firmly in the spotlight. Investors in govies and in credit, emerging from the effects of the sleeping pills called QE (as I noted in 2022), are not riding a crisis but are instead adjusting to a reality they forgot to face for many years. Some books remain works of science-fiction when markets withhold their trust. Shall Central Banks step in and disguise governments deficits and solvency problems with new quantitative easing? After more than a decade of distorted yield curves—driven by ultra-loose monetary policy, quantitative easing (QE), and other interventions—there are several critical questions we should be asking ourselves about the long-term implications; today the near problems are the governments imbalances.

UK GILTS: Not a Question of Truss this Time?