Markets cheer Christmas cracker

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The Independent Online
RISING share prices, a strong gilts market and a cut in interest rates are expected by the City, which viewed the Budget as likely to promote growth with lower rates.

Even before the Chancellor sat down, shares and gilts were powering ahead. The FT-SE 100 index gained 19.4 points during the speech to close at 3,166.9 - a 31.1- point gain on the day. In the gilts markets, long bonds gained almost a point. The currency market was also supported by hopes of rate cuts.

The reaction was partly due to relief that some widely feared measures - an extension of the VAT base or a rise in tax on pension funds - did not materialise. But there was also relief that the Chancellor has done nothing to derail the fragile recovery by imposing a large extra tax burden on consumers.

'The Budget is cracking news. It's going to be a good Christmas for consumers, the first big Christmas since the end of the recession,' said Paul Walton, equity strategist at James Capel. And David Manning, investment manager at Legal and General, is predicting a further 0.5-point cut in base rates within three months. 'It was a reasonably sensible Budget for once,' he said. He expects the gilts market to do well while equity markets 'have some catching up to do'.

That view was shared by Bob Semple, equity strategist at NatWest Markets. 'Shares will respond to the possibility of the next interest rate cut, rather than the Budget measures directly.'

Mr Walton is forecasting that the FT-SE 100 will rise to 3,400 next spring and 3,600 by the end of 1994. He expects yields on long-dated gilts to fall from 7 to 6.5 per cent.

Mr Semple, however, warned that the 120-point rise in the FT-SE 100 since last week's interest rate cut could limit progress initially, although he is expecting it to reach 3,400-3,500 by the end of 1995.

Mr Manning said there was 'a bit of mirror work' in the fact that a large chunk of the spending cuts - pounds 3.5bn - came from a reduction in the contingency fund. 'But the control totals are lower and each department will be under pressure.'

But Alistair Ross Goobey, head of Postel, questioned whether the spending cuts could be delivered.

Douglas Ferrans, a director of Scottish Amicable, said: 'It has to be seen as a good Budget, both for the economy and the markets. We think the FT-SE 100 index will be at 3,250 by the year-end.

'The market will particularly like the anti-inflationary stance the Chancellor has taken. It is also good news that tax increases have been delayed until the recovery is firmly in place.'

Publishers, who had feared the extension of VAT to newspapers and books, and brewers, where duties on beer have been frozen, are likely to be among the strongest performers. Insurance companies, which had feared that the Chancellor would continue the attack on their tax credits, should also recover after recent weakness.

But building companies, hit by further restrictions in mortgage interest tax relief and by cuts in public spending, could be weaker.

George Hodgson, equity strategist at Warburg Securities, said he expected analysts' forecasts for firms in the sector to be scaled back because of the cuts in road building and local authority spending.

While British Airways was hit in after-hours trading, falling 8p to 412p, the damage is expected to be temporary. And the 3 per cent tax on insurance premiums is deemed too small to have an impact - the Prudential has already announced its intention to absorb the charge.

There was widespread relief among investors that pension funds, hit in the March Budget by a cut in the tax credit they can reclaim on dividends, had not suffered further. But Mr Ross Goobey warned that the relief was likely to be temporary.

He expected the equity market to be driven higher by the gilts market, which had reacted even more strongly to Mr Clarke's speech.

The gilt market's strength reflected the extent to which he had chosen to balance the books with spending cuts rather than tax increases and confirmation that changes in full funding regulations would mean a pounds 7bn reduction in gilt sales over the next two years.

At the long end of the cash market, Treasury 8.75 per cent 2017 closed 44

higher at 12122 , where it yields 6.85 per cent. Ten-year bonds also moved sharply higher.

Simon Briscoe, of Warburg, said: 'We are hugely bullish. We were wondering whether the Chancellor had not already fired off his best shots, but he didn't disappoint. There was a string of attractive measures. We are still looking at an RPI of 3.25 per cent and the market is likely to benefit from a feeling of political contentment.'

He added that the short end of the market would have its day because the Budget had increased the possibility of further interest rate cuts before Christmas.

Peter Fellner, of NatWest Securities, said the market's reaction was justified by the expected pounds 5.5bn reduction in the PSBR next year. He warned, however, that there was a question mark over the credibility of the spending cuts.

'So much can happen to public expenditure, so this is more complicated than at first glance. If you go through the entrails, there could be some suspect details to take the gloss off.'

He was unsure how much of the good news was already discounted by gilt yields, which, at the long end of the market, had fallen from 8.3 per cent at the time of the March Budget. 'The greater the reliance on public spending cuts, the greater the uncertainty.'

He expected profit-taking before the end of the calendar year.

The pound closed broadly unchanged at DM2.5411 (DM2.5415), reflecting the currency market's relief that Mr Clarke had concentrated on spending cuts.

Steve Barrow, at Citibank, said the Budget probably implied lower interest rates in a few months, which, with low inflation, would help recovery. 'All markets were geared up for a good Budget and the Chancellor broadly delivered it.'

Markets would have reacted badly to tax rises, which would have damaged the economic recovery.

He warned that, because the Budget depended to a large extent on spending cuts, its effectiveness would not be known for some time.

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