The FTSE 100 closed 177 points, or 1.68%, lower at 10,428 on Thursday, marking its steepest daily decline since May.
The domestically focused FTSE 250 dropped 1.6% to 24,143.21, while the AIM All-Share fell 0.7% to 782.04.
The defining move came in government bonds. The yield on the UK 30-year gilt climbed above 6% for the first time since 1998, reaching more than 6.0% before easing back to around 5.97% by the London close. The 10-year gilt yield also moved above 5.50% intraday, its highest level since 2007.
The sell-off forms part of a wider global repricing of long-term borrowing costs. The US 10-year Treasury yield reached an intraday high of around 5.34%, its highest since 2002, while the 30-year Treasury approached 5.66%.
Higher yields reduce the relative attractiveness of equities while simultaneously raising borrowing costs for companies, households and governments.
The pressure was particularly severe among UK banks. NatWest fell 5.4%, Lloyds dropped 4.5%, while HSBC and Barclays both lost around 4.1%.
The banking sector also faced additional uncertainty ahead of the 28 October Budget. Sky News reported that Chancellor John Healey has called the chief executives of Barclays, HSBC, Lloyds, NatWest and other major lenders to a meeting next Tuesday, amid industry concern over the possibility of higher sector-specific taxation. No increase in bank taxes has been confirmed.
Housebuilders were another major casualty as higher gilt and swap rates threatened to keep mortgage costs elevated. Taylor Wimpey fell 5.5%, Bellway 5.3%, Persimmon 5.1% and Barratt Redrow 4.4%.
The weakness came alongside signs of slowing momentum in the housing market, with Nationwide reporting annual house-price growth of 0.8% in September, down from 1.6% in August.
Interest-rate expectations were also reinforced by comments from Bank of England Monetary Policy Committee member Catherine Mann, who argued that current real financial conditions remain insufficiently tight and that the MPC would eventually need to follow through with increases in Bank Rate rather than relying on higher market risk premia to restrain inflation.
UK manufacturing provided a slightly more positive signal, with the September manufacturing PMI rising to 51.9 from 51.7 in August, remaining above the 50 level separating expansion from contraction.
Sterling weakened against the dollar to around US$1.3204, while the euro fell to US$1.1238.
Brent crude was quoted at around US$101.71 a barrel, down from US$103.82 on Wednesday but remaining high enough to keep energy-driven inflation concerns alive.
Gold edged higher to approximately US$4,163 an ounce.
There were few areas of strength within the FTSE 100. Auto Trader, BP, Airtel Africa, Tesco and Computacenter were among the leading risers, while Games Workshop, Lion Finance, NatWest, Weir and Lloyds were among the largest fallers.
For investors, Thursday’s session demonstrated how quickly the bond-market rout is transmitting into equities, mortgages and the wider UK economy. The critical indicator remains long-dated gilt yields: if the 30-year yield establishes itself around or above 6%, pressure on government finances, mortgage pricing and rate-sensitive shares could intensify further.
Attention now turns to Friday’s eurozone inflation data and US jobs report, including nonfarm payrolls, for the next major test of whether global bond yields can stabilise.
Investor takeaway: The FTSE 100 suffered its worst one-day fall since May as turmoil in government bond markets triggered broad selling across London equities.
