Pound Advances to $1.64, Gilts Slide After U.K. Inflation Data

Pound Advances, Gilts Drop, U.K. Inflation Exceeds Estimates
The pound surged to the highest level in more than a year against the dollar. Photographer: Chris Ratcliffe/Bloomberg

The pound strengthened to $1.64 for the first time since January 2010 and gilts slumped as U.K. inflation accelerated more than economists forecast, renewing speculation that the Bank of England will raise interest rates.

Sterling appreciated the most in a month versus the euro, while gilt yields jumped to the highest in a week. Consumer prices rose 4.4 percent in February from a year earlier, according to the Office for National Statistics, higher than the 4.2 percent median forecast of economists in a Bloomberg News survey. Separate data also showed Britain’s budget deficit unexpectedly widened.

“The markets are rebuilding in rate-hike prospects,” said Adam Cole, global head of foreign-exchange strategy at Royal Bank of Canada in London. “We know inflation is going to overshoot for a prolonged period.”

The pound rose 0.5 percent to $1.6387 as of 4:18 p.m. in London and earlier reached $1.6401, the strongest level since Jan. 19, 2010. Against the euro, sterling strengthened 0.7 percent to 86.64 pence.

The yield on 10-year gilts rose eight basis points to 3.60 percent. The 3.75 percent bond due September 2020 fell 0.6, or 6 pounds per 1,000-pound ($1,625) face amount, to 101.18. The two-year note yield increased eight basis points to 1.30 percent.

U.K. inflation is running at its fastest pace since October 2008 and has held above the central bank’s 2 percent target for 15 months. Commodity prices have surged and the pound’s 25 percent drop on a trade-weighted basis since the start of 2007 has boosted import costs.

Sonia Forwards

Bank officials were split at February’s policy meeting on whether to raise borrowing costs to tame price pressures. Policy maker Andrew Sentance voted to raise the key interest rate a half point from a record low of 0.5 percent. His colleagues Spencer Dale and Martin Weale favoured a quarter-point increase, and the remaining six members of the MPC voted for no change.

Sentance today said that with inflation “set to rise further, failure to take timely monetary policy action risks a more abrupt and destabilising rise in interest rates in the future.”

He commented in a speech in Suffolk, England. Minutes of the March meeting are published tomorrow.

Today’s consumer-price report prompted investors to bet the central bank will increase borrowing costs as early as July, sooner than previous predictions.

U.K. borrowing costs will rise by 25 basis points in July, according to forward contracts on the sterling overnight interbank average, or Sonia. Before the data was published at 9:30 a.m. in London, the forwards showed bets for the first 25 basis point increase coming in August.

Short-sterling futures fell, sending the yield on the contract expiring in December up nine basis points to 1.48 percent, as traders increased bets on a rate increase.

Deficit Figure

The U.K. five-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, rose nine basis points to 2.85 percent.

Net borrowing in February by the government was 11.8 billion pounds, compared with 9.5 billion pounds a year earlier, ONS data today showed. The median of 13 forecasts in a Bloomberg News survey was for a shortfall of 7.2 billion pounds. Government revenue fell 0.9 percent and spending rose 4.6 percent.

The figures come a day before Chancellor of the Exchequer George Osborne presents updated forecasts in his annual budget. Osborne has vowed to stick to plans to eliminate the bulk of the deficit by April 2015.

The pound may advance to $1.66 should it hold its gains for the rest of the day, according to Investec Plc.

“If we see a close above $1.64, the pound could come into its own a little bit and especially given that we’ve got MPC minutes tomorrow and we’ve got the U.K. budget, which can throw the pound around,” said Lee McDarby, head of dealing on the corporate and institutional treasury desk at Investec in London.

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