Starmer Future Sparks Bond Sell-Off & Pound Drop | City A.M.

Speculation surrounding the future of Labour leader Keir Starmer triggered a sell-off in the pound, UK equities, and long-dated government bonds on Thursday, February 5, 2026, as investors reacted to the resulting political uncertainty. The movement underscored the market’s sensitivity to potential shifts in the UK’s economic and fiscal direction.

The divergence between short- and long-term UK debt – the yield curve – widened to its largest gap since 2018, signaling waning investor confidence in the UK economy’s long-term prospects. This occurred even as the Bank of England signaled a potentially more dovish monetary policy stance by holding Bank rate at 3.75 per cent following a surprisingly narrow vote within the Monetary Policy Committee.

Yields on the two-year gilt, closely tracking Bank of England decisions, declined following the rate hold. However, the yield on the 10-year gilt, a key benchmark for long-term government borrowing, remained elevated. This suggests investors are pricing in the possibility of increased government spending under a different Labour leader, potentially necessitating greater gilt issuance to finance those expenditures.

The gap between the two securities reached over 95 basis points, a level not seen in nearly eight years. Typically, the prices of two- and 10-year bonds move in tandem, diverging only when investors exhibit strong optimism or pessimism regarding the UK’s inflation and fiscal outlook.

Adding to the pressure, yields on the 30-year gilt – the UK’s longest-dated bond and one less directly influenced by interest rate changes – also rose to their highest level since November, despite recent efforts by the UK Debt Management Office (DMO) to reduce the supply of these bonds through curtailed auctions. This indicates that political risk is now outweighing supply-side factors in the long-dated gilt market.

“Long gilt yields remain tied to UK political risk,” David Zahn, head of European fixed income at Franklin Templeton, told City AM. “While we had anticipated political risk later in the year, it seems to be coming forward in the calendar. Gilts are beginning to price in a potential change in Labour government and the prospect of further fiscal loosening requiring additional gilt issuance.”

Sterling also experienced a sell-off, falling 0.86 per cent against the dollar to its lowest point this month, even before the Bank of England’s interest rate announcement. Lower interest rates generally lead to a decline in a currency’s value as they reduce its attractiveness to international investors seeking yield.

The FTSE 100 index mirrored the broader market sentiment, declining 0.94 per cent during Thursday’s session, underperforming other major European indices.

Nigel Green, chief executive of Devere Group, emphasized the importance of fiscal credibility in maintaining market confidence. “Rachel Reeves’ credibility with bond markets has been built on one core thing: continuity,” he said. “She’s consistently positioned herself as a guardian of fiscal discipline, clear rules and predictability, particularly after the gilt market turmoil of recent years, especially during the Truss mini-Budget drama. This credibility is derived from the authority of the Prime Minister who empowered her and enforced discipline around the economic message.”

The market jitters coincide with a scandal involving Keir Starmer’s appointment of Peter Mandelson as US ambassador, given Mandelson’s ties to convicted sex trafficker Jeffrey Epstein. This situation has placed Starmer’s premiership in jeopardy, with calls for his resignation growing from within the Labour party. The unfolding events have abruptly reversed a period of positive momentum for UK assets.

Prior to Thursday, government borrowing costs had decreased by more than 20 basis points since September, alleviating pressure on public finances. The pound had also strengthened, benefiting from investors reducing their exposure to the dollar. The FTSE 100 had also reached a series of record highs.

The current market reaction highlights the sensitivity of UK assets to political developments and the importance of perceived fiscal stability. The widening yield curve and the decline in sterling suggest that investors are demanding a higher premium to hold UK debt and currency, reflecting increased risk aversion.