British Stocks Rally as Inflation Decline Eases Rate Hike Fears

The FTSE 100, Britain’s benchmark stock index, rose to its highest level in three months on Wednesday, as investors welcomed a surprise drop in inflation that eased pressure on the Bank of England to raise interest rates.

The index, which tracks the performance of the 100 largest companies listed in London, gained 1.3 percent to close at 7,739 points, its best finish since Sept. 21. It outperformed other major European markets, which also advanced amid hopes that global inflation is peaking and central banks will adopt a more cautious approach to tightening monetary policy.

The rally was driven by a broad range of sectors, from energy and mining to banking and retail, reflecting the improved outlook for the British economy after a year of challenges, such as supply chain bottlenecks and geopolitical tensions.

The main catalyst for the surge was the latest data on consumer prices, which showed that inflation in Britain fell to 4.1 percent in November, down from a 10-year high of 4.2 percent in October. The decline was unexpected, as economists had forecast a rise to 4.5 percent, and marked the first time inflation had eased since February.

The slowdown in price growth was largely attributed to a sharp drop in energy costs, as wholesale gas prices retreated from record highs amid signs of easing tensions between Russia and Ukraine. Gas prices have more than halved since early November, when Russia invaded its neighbor and triggered a diplomatic crisis that threatened Europe’s energy security.

The lower inflation rate reduced the likelihood that the Bank of England, which has been under pressure to curb inflation, will raise its benchmark interest rate from the current level of 0.1 percent when it meets next week. The central bank surprised markets in November by keeping rates unchanged, despite signaling a hike earlier, citing uncertainty over the economic impact of other factors.

Some analysts said the inflation data gave the Bank of England more room to maneuver and wait for more clarity on the situation and the labor market before tightening policy.

“The drop in inflation is a welcome relief for the Bank of England, which can now afford to be more patient and data-dependent,” said James Smith, a developed market economist at ING. “We still think a rate hike is likely in February, but the risks are clearly tilted to the downside.”

Other economists, however, warned that inflation could rebound in the coming months, as the effects of lower energy prices fade and other cost pressures persist. They said the Bank of England may still need to act sooner rather than later to prevent inflation from becoming entrenched and eroding consumers’ purchasing power.

“Inflation is not dead yet,” said Ruth Gregory, a senior U.K. economist at Capital Economics. “We think inflation will rise again to around 5 percent by the spring and remain above the 2 percent target until late 2023. That’s why we think the Bank of England will raise rates by 25 basis points next week and by a further 75 basis points over the course of 2023.”

The FTSE 100’s rise on Wednesday was also supported by positive corporate news, as several companies reported strong earnings or announced dividend payouts. Among the top gainers were BP, the oil giant, which rose 3.4 percent after saying it would return $1.5 billion to shareholders in the fourth quarter; Glencore, the mining and trading company, which gained 3.3 percent after raising its full-year earnings guidance; and Tesco, the supermarket chain, which climbed 2.9 percent after reporting a 6.8 percent increase in sales over the Christmas period.

The FTSE 100 has gained about 16 percent in 2023, outpacing the 13 percent rise of the pan-European Stoxx 600 index and the 11 percent increase of the U.S. S&P 500 index. The British index, however, remains below its record high of 7,903 points, reached in May 2018, and lags behind other major markets in terms of valuation.

Some analysts said the FTSE 100 could catch up with its peers in 2023, as the British economy recovers from the challenges and the Brexit shock, and as the index benefits from its exposure to sectors that are sensitive to global growth, such as energy, materials and financials.

“We think the FTSE 100 has further upside potential, as it is still trading at a discount to other markets and offers an attractive dividend yield of around 4 percent,” said Richard Hunter, the head of markets at Interactive Investor.