File image of Angela Rayner, copyright and licensing by Gov.UK.
Pound sterling rose against the euro on Thursday despite persistent political uncertainty in the UK, as calmer financial markets and elevated UK bond yields continued to underpin sterling.
The pound to euro exchange rate rose to 1.1543, recovering further from the week's low at 1.1502, underpinning the pound's resilience in the face of evolving political uncertainties.
Thursday brings news Angela Rayner has been cleared by HMRC over her controversial tax affairs, opening the door for her to join the leadership challenge against current Downing Street incumbent Keir Starmer.
Rayner stood down as the deputy Prime Minister after journalists uncovered tax irregularities, but she has confirmed she has settled £40K in unpaid taxes following an HMRC investigation, while avoiding a penalty.
Rayner is a firm favourite amongst left-wing Labour Party MPs who advocate for increased government spending on social projects, which markets are wary of.
For Labour Party MPs, Rayner's return will give them a sense of momentum and will raise the odds of Starmer departing before the end of the year.
These latest developments also add to the domestic political uncertainty which has weighed on UK bonds and the pound.
"A potential leadership battle could take weeks and would likely exacerbate volatility in Gilt yields and GBP," says Carol Kong, FX strategist at Commonwealth Bank.
Rayner earlier stated that Starmer should "reflect on" stepping down, and she said she would "play my part" in any leadership contest.
Streeting is close to resigning, according to numerous reports, but has yet to do so by the time of writing.
Andy Burnham, who is yet to become an MP, is still the favourite with Polymarket showing his odds of becoming the next MP have risen to 23%. Rayner is at 17% and Streeting at 15%.
The market would prefer Starmer to stay on as that makes an easier calculation for investors trying to calculate the risks and opportunities the UK presents.
"Any expected deterioration in fiscal metrics will put upward pressure on Gilt yields and downward pressure on GBP," says Commonwealth Bank's Kong.
However, Streeting is seen as a second-best outcome as he is considered more centrist and the more likely to follow fiscal disciplines, whereas Burnham has said he would rewire the UK's fiscal rules.
Bond markets are driving the market response to the chaos in Westminster with investors demanding a higher premium to hold UK debt in fear of a future Prime Minister who will increase spending and borrowing, thereby boosting inflation.
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That premium is the elevated yield offered by UK government bonds, or gilts, which are an 'IOU' the government issues to the market to borrow.
Analysts say high yields are usually supportive of the pound as foreign investors tend to snap up the underlying bonds to take advantage of superior returns.
With UK bond yields offering greater returns than most G10 peers, it's probably no surprise the pound is holding its ground.
This is especially true when global market volatility is low, as is currently the case.
"The level of rates helps explain why the pound isn’t doing as badly as client queries suggest it could be. Sterling will weaken over the coming months, but if it gets sold aggressively in the coming days, we will be tempted to buy it," says Kit Juckes, chief FX analyst at Société Générale.
However, the ever-present fear is that a tipping point is reached where investors step back and dump gilts and the pound in tandem, as happened during the time of Liz Truss.
"A leadership change could unnerve markets and lead to a sell-off in sterling," says Sergio Capaldi, Fixed Income Strategist at Intesa Sanpaolo.
