2026 could be the year of interest rate cuts. How might the UK stock market react?

There’s growing chatter in stock market circles about when the Bank of England (BoE) might finally resume cutting interest rates. Despite edging closer to target levels, inflation remains higher than expected after a few rises, prompting tougher action to reduce it.

The BoE has hinted that further rate reductions could occur next year if inflation is under control. However, policymakers remain cautious, wary of cutting too quickly and risking another inflation flare-up. Wage growth and global oil prices are two key factors that could delay the decision.

On the other hand, if the economy weakens faster than expected, the Monetary Policy Committee might be forced to move sooner to stimulate growth.

If history is any guide, lower rates could give UK shares a welcome boost — but not all sectors are likely to benefit equally.

Sector-specific effects

In previous cycles, stock markets have tended to rally following rate cuts. When borrowing costs fall, consumers and businesses typically spend more, driving corporate profits higher. The most interest-sensitive sectors — housebuilders, utilities and infrastructure – often react first, as their financing costs drop and demand improves.

During the 2008 and 2020 easing cycles, for instance, the FTSE 100 climbed sharply in the months following the first rate cuts.

For investors, rate cuts can shift the balance between growth and income strategies. Dividend-paying companies often look more attractive as interest-bearing accounts and bonds become less rewarding.

And among the FTSE 100’s most dependable dividend payers, one stock stands out as a potential winner if rates fall — National Grid (LSE: NG.).

Utility stability

National Grid operates electricity and gas transmission networks across the UK and the US. It’s a backbone of modern infrastructure, connecting power stations to homes and businesses. The firm’s revenues are largely regulated by Ofgem and US authorities, giving it a stable, predictable income base. 

This makes it particularly appealing in periods of uncertainty. Why? Because when interest rates fall, borrowing becomes cheaper to manage. Since the company finances huge infrastructure projects, even a modest reduction in debt costs can boost profits.

And the cherry on top? It offers a dividend yield of around 4.4%, which becomes even more appealing to income-focused investors once savings rates decline.

Robust but not risk-free

Financially, National Grid has been performing steadily. Analysts expect asset growth of roughly 10% per year through to 2029, supported by investment in electricity networks and the energy transition.

However, the stock isn’t without its risks. Regulatory decisions can directly affect its returns, and cost pressures from materials and labour could squeeze margins. Its debt load is also significant, meaning any missteps or project delays could hit cash flow.

So what’s the verdict?

Overall, I think National Grid’s a strong stock for investors to consider if the rate-cutting cycle begins. It combines solid dividends with exposure to the long-term trend of utilities optimisation and renewable energy.

Ultimately, interest rate cuts could mark a turning point for the FTSE 100 after years of economic strain. While no one can predict the exact timing, it makes sense for investors to start planning ahead.

A utility company may not be the most exciting option on the market, but for those seeking stability and income in a changing rate environment, it could be the sensible one to weigh up.

The post 2026 could be the year of interest rate cuts. How might the UK stock market react? appeared first on The Motley Fool UK.

More reading

• How does the price-to-value proposition look in National Grid’s share price after its pre-H1 results update?
• Are National Grid shares a bargain under £11?
• If markets crash, I’m buying these 2 UK shares
• National Grid: the UK’s safest passive income stock?
• 5 questions to ask yourself before you start investing

Mark Hartley has positions in National Grid Plc. The Motley Fool UK has recommended National Grid Plc. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

See author's posts