Why 2026 Could be Another Good Year for UK Bond Investors

Key TakeawaysThe Bank of England’s next moves on interest rates will be critical to UK government bond performance in 2026.Political risk has been a factor in 2025 and could recur in 2026 around May local elections and the Autumn Budget 2026.Gilt sales by the UK government and the Bank of England could increase bond supply and depress prices.

The outlook for the UK bond market in 2026 is shaping up to be a decent one for investors, but not one without risks.

Expected interest rate cuts from the Bank of England are likely to boost short-term UK government bond prices in 2026, fund managers and economists say. This follows a 5% rise in the Morningstar UK Gilt Bond Index in 2025, the best year for the index since 2020, and one in which UK stock markets have hit record highs. A drop in interest rates from 4.75% to 3.75% helped drive down yields and push up prices of UK government debt.

Still, a delay to forecast rate cuts could keep yields at elevated levels and contain prices rises. And longer-term gilt yields could still spike again if political risk resurfaces after a volatile and newsflow-driven year in 2025. Investors will also be mindful that the increased supply of bonds amid higher government borrowing and Bank of England gilt sales could weigh on prices.

UK Politics is a Continued Risk Factor for 2026

After the Autumn Budget less than a month ago, some fund managers say that political risk is now lower, but remains a possible trigger of bond market volatility into 2026.

UK bond yields spiked, first in January, then in September and then in the lead-up to the Autumn Budget. Yields on long-term debt came close to 30-year highs as bonds sold off amid concern over government finances. From a bond investor’s point of view, while yields make the headlines in these turbulent periods, bond prices fall, harming total returns. Higher yields show investors are demanding a premium for investing in UK debt, but from an income perspective, bond coupons remain the same.

Investors have focused their attention on long-term bond prices and yields: While the 10-year gilt yield is the same at the end of 2025 as at the start, but the 30-year gilt yield is 30 basis points higher.

After the budget on Nov. 26, the UK chancellor, Rachel Reeves, told British MPs that “it’s best if chancellors don’t comment on bond markets.” But it was clear in 2025 that bond markets were commenting on the chancellor’s performance at key points.

Autumn Budget Calms Bond Investor Nerves

After the budget, the government’s tax, spending and borrowing plans were laid out and yields have fallen back.

Morningstar international economist, Grant Slade, says that the government enters 2026 in a better shape that it started 2025.

“The chancellor has emerged from the Autumn Budget in November with improved fiscal headroom, offering a signal that the government remains committed to debt reduction, longer-term,” he says.

“This could, in turn, promote lower gilt market volatility in 2026, with the government possessing greater wiggle room relative to its self-imposed fiscal rules.”

Royal London Asset Management’s outlook notes that bond markets will welcome “greater clarity around the UK’s fiscal position” into 2026, which will lower yields further.

Shaan Raithatha, senior economist at Vanguard Europe, says that better economic growth figures into 2026 “should also support fiscal credibility.” The IMF predicted in October that the UK would be one of the fastest-growing economies in the G7. Better growth would increase income tax receipts and reduce reliance on government borrowing, leading to lower yields.

Political Risks and the Bond Market Outlook

But political risk has not been banished, particularly as the prime minister, Keir Starmer, just survived a leadership challenge in the autumn and has very low poll ratings.

Morningstar’s Slade says a revived threat to his position could be another flashpoint for bond markets in 2026.

“The risk of a leadership challenge to Starmer offers the potential for further gilt market disquiet, particularly for the longer-end of the curve,” he says.

“Starmer is among the most fiscally conservative of his party peers and a successful leadership challenge would likely see a new chancellor installed with lessened commitment to fiscal consolidation than that of Rachel Reeves,” he adds.

“Under such a scenario, we’d expect to see longer-dated gilt yields widen and increased volatility in gilt prices in the intervening period. That said, it is likely that a leadership challenge is already partially priced into markets given Starmer’s widespread lack of popularity amongst voters.”

Kathleen Brooks, research director at XTB, says investors should expect domestic politics to make a comeback in the spring.

“The local elections on May 7 are a major political risk for bond and FX investors in the UK,” she says.

“The result of these elections could lead to a change of direction for the Labour party, and potentially a leadership challenge to Keir Starmer.”

Next year’s Spring Statement and Autumn Budget are also potential triggers for bond market volatility, as they have been in 2025.

Asset manager BlackRock says that markets will be still be watching the finer details of the chancellor’s plans for signs the government is off course. “The recent budget aims to shore up market confidence through fiscal consolidation. But deferred borrowing cuts could bring back gilt market volatility,” it says. BlackRock maintained a neutral stance on UK equities and gilts in its 2026 outlook.

The Government is Selling More Bonds, So Is the Bank of England

Two supply factors affecting bond prices could be pertinent to investors next year. First, the UK government is selling £303 billion of new bonds in 2025-2026, a rise of £4.6 billion on the year before. Short, medium- and index-linked bonds will see the biggest increase in issuance.

And the Bank of England still has more than £500 billion of UK government bonds acquired after the financial crisis to sell into the market. The central bank has been urged by former central bank policymakers to stagger this “quantitative tightening” process to avoid flooding the market with UK debt, a move that could depress prices.

How Much Will the Bank of England Cut Rates in 2026?

While the Bank of England cut interest rates four times in 2025, from 4.75% to 3.75%, investors don’t yet know many more rate cuts will occur in 2026. The “terminal rate,” the final point in this current monetary policy cycle, is hard to assess, economists say. But current assumptions point to up to 75 basis points of cuts ahead, which would leave rates at 3%, still higher than in Europe, where the key policy rate is 2%.

Futures markets are showing possible rate cuts in March and April. But analysts at Bank of America says assumed rate cuts may not materialize that quickly, which will support yields at current levels.

“The very fact that the UK is entering terminal rate territory will naturally lead to increased caution and an increasing data dependency approach. This is where the rates market could come foul of the data once more,” their analysts say.

Much depends on whether the UK inflation moves back to the 2% target in 2026, after a period of “sticky” inflation in the UK that kept interest rates much higher than in the eurozone, Switzerland and Sweden.

There is a consensus among fund managers that UK government bond yields remain competitive relative to other developed countries, as well as beating inflation, so offering “real yields.” For example, Germany’s 10-year bond yields 2.85%, nearly two percentage points below the UK’s equivalent security.

Whether bonds will continue to offer competitive yields relative to cash and equities is a vital question next year if rates fall.

Because bond yields reflect interest rate and inflation expectations, this trajectory matters for investors buying UK government bonds or gilts for income. In the case of UK bonds, interest rate cuts are likely to lower the yield and boost the price of short-term debt.

James Klempster, deputy head of the Liontrust multi-asset team, says the UK gilt yield is 26 times higher than it was five years ago, a “barely believable” increase after a surge in inflation during this period.

Royal London’s 2026 outlook says that, “government bonds are paying their way once more” with real yields on UK debt now above 2%.

Currently the 10-year gilt yields just below 4.50%, while the FTSE 100’s dividend yield is around 3.16%.

UK Bond Market Valuation

French investment firm Amundi says that in terms of asset allocation, “European bonds remain a key call for global investors, with a focus on peripheral bonds and UK gilts.”

Their 2026 outlook sees gilts are near their cheapest levels in a decade against US Treasuries.

The performance of the Morningstar UK Gilt Bond Index in 2025, rising by less than 5%, should be put into context of the 22% gain for UK equities in this period, as measured by the Morningstar UK Index. This is the best performance for UK equities since 2020 in a year when European equities have hit records. Bonds tend to outperform when stock markets fall and vice versa, and also offer some protection against equity market volatility.

Will UK Bond Prices Rise?

As well as looking at yield, investors in bonds also measure performance in terms of total returns, so factoring in capital appreciation. When a bond’s yield falls, the price rises, so interest rate cuts in 2026 could push bond prices higher, fund managers say.

“Given the high starting point for gilt yields, we also see room for gilts to do well in 2026,” Hussain Mehdi, macro and investment strategist, HSBC Asset Management says.

Asset manager Schroders, in its 2026 outlook, is positive on gilts from a capital return perspective: “Uncertainty ahead of the budget created volatility recently but weaker employment data, inflation appearing to have peaked and the prospect of more rate cuts mean we feel there is upside potential.”