Sterling 'overbought'; Burnham's fiscal 'flexibility' poses downside risk

Andy Burnham's first day as prime minister is behind him, and markets remain jittery about what his premiership will bring. The surprise appointment of John Healey as chancellor wrong-footed most observers, though it's barely moved the needle so far.

Healey's track record points to higher spending on defence and housing, but he remains a soft-left figure likely to work within the fiscal rules and respect market constraints. We see him as not too dissimilar to the FT's reported pick, Shabana Mahmood, and far less radical than the previous frontrunner, Ed Miliband.

Beyond that, Burnham has been vague on policy - the exception being his welcome plan to scrap VAT on household energy bills. This will be funded in year one by scrapping the digital ID scheme, although keeping it beyond that will require tax rises elsewhere.

Sterling has been largely unmoved since Burnham arrived at Number 10. Gilts, however, have sold off on his remarks that he intends to use "flexibility" within the UK's fiscal rules. We think markets are underestimating this risk - sterling looks overbought, with room for downside should Burnham rewrite these fiscal constraints, rather than simply flex within them.