Key Takeaways
- UK stocks are near record highs heading into the fourth quarter despite geopolitical uncertainty weighing on the economy.
- The Autumn Budget is expected to bring changes for banks and housebuilders, while fund managers say a credible fiscal plan could see a gilts relief rally.
- The Bank of England is also expected to raise interest rates, while higher inflation could weigh on consumer stocks.
UK stocks are on the cusp of record highs heading into the final quarter of 2026 despite the specter of higher inflation, rising interest rates and potential Autumn Budget policy changes before the end of the year.
The Iran war has sent energy prices soaring amid disruption to supply chains, leading economists to expect higher inflation and interest rate rises before the end of the year. The UK stock market was largely driven by rising oil and gas prices in the third quarter, with energy the top performing sector. So far this year, the Morningstar UK Index has risen over 9%, having hit multiple record highs. In the bond markets, gilt yields reached multidecade highs as oil climbed above USD 100 a barrel. The yield on a 10-year gilt reached 5.4%, its highest level since 2007.
With an Autumn Budget and two more Bank of England meetings to come before the end of the year, here’s what investors will be looking out for in the coming months.
How Did UK Markets Perform in Q3?
The Morningstar UK Index, which tracks the performance of 97% of investable UK stocks, rose 2.97% in the third quarter, higher than the roughly 1% gain in the second quarter.
Surging oil prices largely drove markets with the energy sector the largest contributor to performance. Shell SHEL and BP BP. both rose over 20% between July and the end of September.
Healthcare and consumer sectors were among the worst performing sectors. AstraZeneca AZN, the third largest UK stock, fell over 10% in the quarter following reports over a USD 400 billion megamerger with US-listed Bristol-Myers Squibb which unsettled investors and a trial miss for the heart condition drug Wainua.
Gilt yields surged in the quarter as investors ramped up expectations of interest rate rises. Yields on 10-year gilts sit just below 5.5%, while the 30 year has crept toward 6%. This move in UK government bond yields mirrors similar trends in developed country debt.
Will the BoE Raise Interest Rates in 2026?
The Iran war continues to put pressure on the UK economy heading into Q4, with inflation rising to 3.1% in August on the back of higher petrol prices. September’s inflation print, which releases on Oct. 21, is expected to come in at 3.5%, according to FactSet consensus.
Meanwhile, the effects of the summer’s extreme heat are also expected to drive up food prices in the coming months.
Despite inflation drifting further from the BoE’s 2% target, the central bank has so far resisted calls to hike interest rates. Its decision to hold at its September meeting broke ranks with the Fed and ECB, which both raised interest rates in September.
However, the activity on derivatives markets implies that the BoE will hike interest rates to 4% at its next meeting on Nov. 5.
“The Bank’s expectation is that inflationary pressures could persist, particularly as higher energy costs continue to work their way through the economy,” says Michael Field, chief European markets strategist at Morningstar.
Field says the expectation of higher inflation and interest rates is creating a challenging backdrop for consumer-facing stocks in Q4.
“Equity markets are trading close to record highs despite these headwinds and the economy has been surprisingly resilient in the face of ongoing geopolitical uncertainty. But if inflation continues to rise, then something will have to give,” he says.
How Could the Autumn Budget Affect UK Markets?
The Autumn Budget on Oct. 28 is expected to deliver a raft of policy announcements, with changes for housebuilder and bank stocks expected.
Enrique Díaz-Alvarez, chief economist at Ebury, says the budget is emerging as the crucial risk on the horizon for UK assets.
“The government has already effectively signaled that further tax hikes and higher borrowing are coming, so the key for markets will be whether Healey can communicate this in a way that allays fears of a fiscal doom loop, while still convincing investors that the measures are credible enough to support growth,” he says.
What Could the Budget Mean for Gilts?
Gilt yields have surged this year amid a wider selloff in global bond markets, driven by higher inflation and interest rate expectations amid climbing oil prices. Concerns over government finances have also contributed to the rise in UK borrowing costs.
Al Cattermole, fixed income manager at Mirabaud Asset Management, says the near-term outlook for gilts will be tied to the upcoming budget, and a credible and fully funded fiscal plan could see a relief rally.
“However, they are not immune to the wider macro pressures and are unlikely to return to the ultralow yield levels seen before 2022 without a significant economic slowdown,” Cattermole adds.
Could Housebuilders Benefit From Your First Home?
In terms of stocks, housebuilders and banks are in the spotlight ahead of the Autumn Budget. Prime Minister Andy Burnham has already announced support for the housing sector, reviving the Help to Buy scheme which ran between 2011 and 2023. The “Your First Home” policy will offer first-time buyers the chance to buy a new build property with a 2.5% deposit.
Jack Fletcher-Price, equity analyst at Morningstar, says the proposal could provide a meaningful lift to sales volumes for housebuilders.
Full details of the scheme will be announced at the Budget, though housebuilder stocks have already surged with Persimmon PSN, Barratt Redrow BTRW and Crest Nicolson CRST all up over 10% in the day’s trading following the policy’s announcement.
Could UK Banks Face a Windfall Tax?
The Autumn Budget presents a possible challenge for the banking sector, fund managers say, after groups including the Labour-affiliated Trades Union Congress renewed calls for a windfall tax on UK bank profits ahead of the Oct. 28 Budget.
Campaign group Positive Money recently estimates a 38% tax at the Budget—in line with the windfall tax currently in place on oil and gas companies—would raise up to £19 billion a year. Large banks already pay additional tax as a “surcharge” to standard corporation tax rates. However, fund managers expect any further tax to be modest.
