Nomura's Guide to Hedging Against Risk of a Corbyn Government

(Bloomberg) -- How do you solve a problem like Jeremy Corbyn? The time has come for investors to hedge against the risk of a Labour government under the leadership of a socialist firebrand.

Nomura International recommends curve-steepening trades on U.K. government bonds as the best way to protect gilt investors from the possibility of more political upheaval in the form of a 68-year-old who wants to raise income taxes, bring back into public ownership rail, water and energy companies and inject 6 billion pounds ($7 billion) into the National Health Service.

The probability of Theresa May stepping down in the next 12 months is at 56 percent, according to a survey of Nomura clients, while the likelihood of Corbyn replacing her as prime minister is 17 percent.

“This is a time of unique political uncertainty in the U.K.,” wrote strategists led by Andy Chaytor in a note. If these survey numbers are “at all indicative of market beliefs it is worth considering the trades for this tail-risk.”

A trade whereby five-year bonds outperform debt maturing in 30 years is a good option in the face of the government collapsing because the front end will benefit from a flight to quality and a pricing out of rate hikes, while the longer end will suffer from increased borrowing and greater supply of gilts in the market, according to the bank.

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