Pound Weakens on Diminishing Speculation That Rates Will Rise This Year

The pound weakened against the dollar on concern this year’s gains were overdone after the Bank of England left interest rates at a record low yesterday, dimming speculation that rates may rise later in the year.

Sterling traded weaker against 13 of its 16 most-traded peers. The U.K. central bank yesterday kept its key rate unchanged at 0.5 percent. Gilts snapped a nine-day slump today, even as data showed producer-price inflation accelerated.

“The argument for a much stronger pound is not a good one based on current rates policy,” said Steve Barrow, the London- based head of research for Group-of-10 currencies at Standard Bank Plc. “At the moment the economy is still sufficiently vulnerable for inflation to come down. On that basis, one would tend to favor a scenario where rates only go up towards the back end of the year.”

The pound lost 0.6 percent to $1.6002 at 4:45 p.m. in London. Sterling declined 0.7 percent this week, though it has still advanced 2.5 percent this year. Britain’s currency depreciated 0.1 percent to 84.61 pence per euro.

The yield on the 10-year gilt fell two basis points to 3.87 percent. The 4.75 percent security due March 2020 rose 0.12, or 1.20 pound per 1,000 pound ($1,612) face amount, to 106.70. Two year gilt yields were little changed at 1.556 percent.

Producer Prices

The cost of goods at factory gates jumped 1 percent from December, when it rose 0.4 percent, the Office for National Statistics said today in London. That’s the most since April and exceeded the 0.5 percent median forecast of 14 economists in a Bloomberg News survey.

“The PPI data isn’t having a material impact on sterling,” said Gavin Friend, a markets strategist at National Australia Bank in London. “The market has been long sterling for a while, so it’s due for a bit of a pullback, especially in light of the Bank holding yesterday.”

The Bank of England has faced mounting pressure to raise borrowing costs for the first time since July 2007 to help curb inflation, which has exceeded its target for more than a year. Inflation accelerated to 3.7 percent in December, equalling an April reading that was the highest since November 2008.

Former Bank of England policy maker Kate Barker said officials may be wary of increasing rates if it risks stoking gains in the pound that would undermine the economic recovery.

Inflation Outlook

“Having a reasonably weak sterling is very helpful, that is certainly a reason why you’d expect a lot of caution on changing rates,” Barker said in an interview in London. “The bank would certainly be uncomfortable if sterling appreciated strongly, because that would solve the inflation problem but it would be depressing the economy.”

Governor Mervyn King has dismissed inflation risks as temporary, saying government spending cuts and slower-than- estimated economic growth will curb price pressures.

“The market has fully priced in two rate hikes this year with the risk that the bank hikes sooner rather than later, but they might pause to see what effect the austerity measures have on growth,” said Friend. “Cable is also down because of a stronger dollar,” he said, referring to the dollar-pound exchange rate.

Britain’s government has lowered spending and lifted taxes to reduce its fiscal deficit from an estimated 10 percent of gross domestic product in the year through March.

Short-sterling futures rose, lowering the implied yield on the contract expiring in December by two basis points to 1.72 percent. A lower yield indicates investors are reducing bets that policy makers will increase borrowing costs.

The U.K. 10-year breakeven rate, an indication of investors’ inflation expectations over the life of the securities, derived from the yield gap between conventional and index-linked bonds, fell three basis points to 3.24 percent.

To contact the reporter on this story: Garth Theunissen in London gtheunissen@bloomberg.net

To contact the editor responsible for this story: Daniel Tilles at dtilles@bloomberg.net

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