LONDON, Oct 16 (Reuters) - Britain's new finance minister, John Healey, delivers his first budget on October 28 against a backdrop of rising global borrowing costs and high energy prices due to the Iran war.
"This budget is about credibility," said Luke Hickmore, investment director, fixed income, at Aberdeen Investments.
Healey "has said fiscal discipline will be at its core, and the gilt market will hold him to that. Stick to the plan and yields might have room to fall. Surprise the market and the bill
could arrive quickly."
Here is a look at what is at stake for UK markets.
BOND SELLOFF STINGS
A brutal global bond selloff that pushed the 30-year gilt yield briefly above 6% in October has eroded the government's fiscal buffer, which stood at £24 billion ($31.78 billion) in March.
Economists estimate this headroom now stands between roughly £8.5 billion and £16 billion as higher borrowing costs lift the debt interest bill.
Healey is under pressure to show how he can meet fiscal rules without raising the main taxes. Bond investors want reassurance over fiscal discipline.
Still, sentiment has improved due to relative political stability, better economic data and the Bank of England's decision to pause its gilt sales.
"There's a fiscal risk premium in the UK, but maybe it looks less bad than some of the other countries," BofA's head of global G10 FX strategy, Adarsh Sinha, said.
STERLING SHRUGS OFF BUDGET RISK
Sterling, near 16-month peaks against the euro, does not appear too fazed by the budget. Trading in FX options markets suggests the budget is not shaping up as a key risk event, BofA's Sinha said.
"But of course, you never want to get too complacent with the UK budgets because we have the memory of prior budgets, and never say never."
Former Prime Minister Liz Truss' 2022 mini-budget triggered a bond and sterling rout by announcing big tax cuts.
Nomura's head of G10 FX strategy, Dominic Bunning, said he was watching the degree to which the government looks to use public financial institutions as vehicles to borrow funds, which could test its credibility.
"That's something I'm watching with a modest amount of concern about whether that could be more of a negative catalyst for sterling," he said.
TAX THE BANKS?
As the government looks for additional revenue to shore up its public finances without imposing broad tax rises, banks are sensitive to any signs that they could be targeted for a tax raid.
Senior executives from some of Britain's biggest banks met Healey earlier this month and media reported afterwards that they left with no clear sense of whether he planned to increase a windfall tax on the sector.
Shares of the big four banks - HSBC, NatWest, Lloyds and Barclays - are down between 3% and 5% in October so far. While this is broadly in line with other European banks given higher global borrowing costs, pre-budget jitters are partly to blame.
BUILDERS SET FOR BUDGET BOOST?
Housebuilder stocks surged in late September after the government confirmed plans for a new first-time buyer support scheme in October's budget, boosting a sector battered by weak demand and affordability pressures.
"We believe this is the big catalyst the sector as a whole needed for a re-rating," said RBC analyst Anthony Codling after the plans were announced.
"Christmas has come early for the UK housebuilders."
Still, rising mortgage rates have since acted as a headwind for the sector, with pre-budget share gains being wiped out.
UTILITIES ON A WARNING
British Prime Minister Andy Burnham put utility companies on warning in a key speech last month, stepping up his rhetoric on public ownership of underperforming water companies.
Burnham also announced Great British Grid (GB Grid), a new publicly owned networks company, aimed at cutting energy costs and speeding up connections.
"We remain positive on the outlook for UK utilities after various policy announcements," JPMorgan said in a note.
"We do not see the announcement of GB Grid ... as a significant threat to the growth and value creation targets of the electricity network companies."
Britain's utilities sector is up almost 4% since Burnham's pronouncements; the broader market is little changed.
(Reporting by Samuel Indyk and Dhara Ranasinghe in London and Medha Singh in Bengaluru; Editing by Xevi Fontdegloria)
