A new government. A newly elected Prime Minister. A new Chancellor. A radical Budget. Rising UK government bond yields… déjà vu? When Rachel Reeves delivered her first Budget, UK government bond yields began to climb. Memories of the chaos from Liz Truss’ mini-budget two years earlier resurfaced. Would the bond market face another meltdown? Thankfully, the reaction has been far more controlled this time, with key differences in the economic backdrop and policy measures helping to avoid the turmoil of 2022. While this is not a political debate, it highlights a key lesson; the need to stay nimble and keep liquidity at the heart of portfolio decisions.

Quick recap: what was the gilt market reaction to Truss’ mini-Budget?

The market’s reaction to Truss’ mini-Budget in September 2022 was nothing short of chaos. UK bond yields soared, the pound plummeted, and mortgage rates skyrocketed. Investor confidence was already fragile, but the announcement of unfunded tax cuts and ballooning borrowing crushed any remaining trust. The result? A sharp spike in 10-year gilt yields from 3.3% to 4.5%, triggering one of the most dramatic sell-offs in the gilt market’s history.

Spot the difference: what happened to government bonds after 2024’s Budget?

Fast forward to Reeves’ Budget and while 10-year yields did climb—rising from 4.31% to 4.53% in the five days after the Budget—the reaction was far more subdued. That said, it was not without its drama. Criticism surfaced over tax hikes, especially on employer National Insurance contributions, raising fears about business growth. In addition, the Office for Budget Responsibility (OBR) admitted to a major error in calculating the fiscal headroom Reeves had to manoeuvre. Investors, understandably rattled, saw yields edge higher and volatility creep back into the gilt market… whatever happened to the stability of government bonds!?

Pension fund chaos: why did the 2022 mini-Budget cause such a storm?

The 2022 mini-Budget did not just rattle markets; it unleashed a financial storm for pension funds relying on liability-driven investment (LDI) strategies. These funds, designed to match long-term liabilities with investments, use leverage and derivatives extensively. They are used to enhance returns and hedge risks, but they were highly exposed to falling gilt prices.

As gilt yields soared and prices plunged, pension funds faced large margin calls. To meet these demands, they had to sell gilts, which only drove prices down further in a self-reinforcing cycle. Short-maturity corporate bonds, typically held as a liquidity buffer, were also sold off to generate cash. The sell-off spiralled, leaving the Bank of England no choice but to intervene with an emergency gilt purchase program. Whilst there was calm in the storm, the episode raised concerns about the resilience of the UK’s pension system to future financial shocks which required changes.

What lessons have been learned?

The fallout from the 2022 gilt crisis brought about essential reforms in the pension industry. Higher liquidity buffers were introduced to manage sudden cash demands, stronger governance and oversight enhanced risk management, and tighter leverage limits reduced exposure to market swings. These measures have significantly improved the system’s resilience. Following Rachel Reeves’ Budget, the gilt market reaction was notably more contained, even as yields rose. While inflation concerns persist, the current economic environment is markedly different from 2022 which has also limited the impact of the recent Budget. However, the 34-basis-point rise in 10-year gilt yields in the one month running up to the budget is a stark reminder that volatility in the gilt market is far from over and investors were already anticipating a difficult budget.

How liquidity is your friend

Even with the hard lessons from the gilt crisis of 2022, volatility continues to haunt assets once considered rock-solid, like UK government bonds. Back in the chaos of September 2022, it was the buffer of short-maturity corporate bonds that stepped up, providing crucial liquidity and an investment opportunity for our portfolios. We were able to opportunistically snap up high-quality bonds at significantly elevated yields—a rare silver lining amid the turmoil. As we look ahead after the uncertainty sparked by Rachel Reeves’ Budget, we cannot predict the exact path of inflation or the ripple effects on yields. However, one thing is certain: understanding the liquidity of bonds in a portfolio is not just a nice-to-have—it is a must-have. With macroeconomic storms brewing, staying nimble and liquid could be the key to weathering what is next.

Anish Shah, Senior Fixed Income Trader