The softening in UK inflation to 3.6% in October has strengthened expectations of a Bank of England rate cut in December. This shift in monetary policy expectations immediately affects gilt yields and sterling, while easing financial conditions for rate-sensitive sectors such as housing and domestic equities. The key opportunity lies in positioning ahead of a potential policy pivot that could lower borrowing costs across the economy.Main NarrativeThe Bank of England has been fighting persistent inflation that rebounded earlier in the year due to higher utility costs, firm payroll taxes, and rising food prices. However, October’s reading confirms a renewed disinflation trend, supported by moderation in services inflation, which fell to 4.5% from 4.7%, and easing pay growth. This indicates that underlying inflation dynamics are no longer being driven by strong wage pressures, a critical signal for the monetary policy committee.The Bank held rates at 4% in its last meeting, in a close decision that ended a sequence of quarterly cuts that began in August last year. The new inflation data strengthens the case for another rate cut in December, particularly as growth risks mount and real borrowing costs remain restrictive. Economists, including KPMG’s Yael Selfin, now view the December meeting as a pivotal moment in the monetary easing cycle.The U.K. remains a relative inflation outlier compared with major peers. Eurozone inflation stands at 2.1% while the U.S. sits at 3%, making U.K. inflation the highest among advanced economies tracked closely by global investors. This divergence has kept the BOE’s benchmark rate twice that of the ECB, creating a yield premium that has supported sterling, but also weighed on corporate financing costs and housing affordability.Disinflation momentum is expected to continue. The BOE projects inflation to ease toward 3% in early 2026 and return to 2% in 2027. UBS forecasts a faster path, with inflation averaging 2.2% in 2026, suggesting a return to target in the second half of that year. Fiscal policy will also come into focus as Chancellor Rachel Reeves signals that the upcoming budget will prioritize lowering inflation through policies designed to suppress domestic demand rather than stimulate it. KPMG expects higher taxes to dampen consumption, reinforcing disinflation over the coming year.Targeted Market ImpactGilt yields have already started to price in the likelihood of policy easing. A confirmed trajectory toward lower rates would extend this trend, particularly at the short end of the curve. Lower yields would support the FTSE 250, which is heavily weighted toward domestic sectors such as housing, consumer services, and financials. The FTSE 100, while more internationally exposed, could benefit from weaker sterling if rate cuts materialize.Sterling faces a two-way risk. If disinflation accelerates and rate cut expectations intensify, GBP could weaken against EUR and USD as the yield advantage narrows. Conversely, if fiscal policy supports credibility and inflation trends toward the target without economic deterioration, sterling may hold firm due to reduced risk premiums and improving real rate dynamics.Fixed income traders are increasingly positioning for a December rate cut, with focus on two-year gilts as the most sensitive segment. Meanwhile, real estate investment trusts and mortgage lenders would be among the early beneficiaries of a rate cut as financing costs ease and housing affordability improves.Forward ViewThe December BOE meeting is now the central near-term catalyst. The market will also monitor the government’s upcoming budget, which could reinforce or undermine the disinflation trajectory depending on the balance between fiscal restraint and growth support. Short-term risk lies in inflation potentially stabilizing rather than falling, especially if energy or food prices reverse course.Base case: inflation continues to moderate, enabling the BOE to begin gradual rate cuts starting in December, supporting gilts and domestic equities.Alternative case: inflation plateaus near 3.5% and services inflation remains sticky, delaying cuts to early 2025 and pressuring rate-sensitive sectors.ConclusionA tactical opportunity is emerging in U.K. domestic equities and short-duration gilts, supported by a credible disinflation trend and an increasing probability of a December rate cut. The key risk is renewed inflation pressure from wages or energy, which could delay policy easing and stall investor positioning.