U.K. 5-Year Notes Beat Bonds as BOE Signals Shift in Stimulus

U.K. five-year notes outperformed longer-maturity gilts after the Bank of England signaled it may favor shorter-dated debt purchases in its next round of so-called quantitative easing.

Sterling strengthened versus most of its 16 major counterparts after the central bank said it will boost its bond-buying program by 50 billion pounds ($79.3 billion), less than the 75 billion pounds forecast by some economists. The central bank bank altered the maturity bands of its debt purchases, indicating it will buy more securities maturing in three-to-seven years than in the previous round.

“The proportion that is spent in the front end is increased, so that the relative scarcity of the shorter-dated gilts becomes more of an issue,” said Sam Hill, a fixed-income strategist at RBC Capital Markets in London. “It’s rational that the curve has steepened and will continue to do so.”

The five-year yield fell four basis points, or 0.04 percentage point, to 1.09 percent at 3:58 p.m. London time. The 1.75 percent note due January 2017 rose 0.175, or 1.75 pounds per 1,000-pound face amount, to 103.17.

The 10-year yields rose three basis points to 2.23 percent and the 30-year yield climbed 11 basis points to 3.36 percent.

The extra yield, or spread, that investors demand to hold 30-year gilts over five-year notes, widened as much as 16 basis points to 228 basis points, the biggest increase since Dec. 1.

Quarter of Gilts

The Monetary Policy Committee’s new asset-purchase target of 325 billion pounds represents more than a quarter of current outstanding gilts. The increase was predicted by 34 of 50 economists in a Bloomberg News survey. Fifteen forecast a 75 billion-pound increase and one saw no change. The central bank also held its key interest rate at 0.5 percent.

The new gilt-purchase bands are three-to-seven years, seven-to-15 years, and more than 15 years, the Bank of England said. During the round of purchases announced on Oct. 6 the bands were three-to-10 years, 10-to-25 years and more than 25 years. The central bank will buy assets evenly across the bands, it said.

The three-to-seven year band is 45 percent smaller than the previous three to 10-year band, so “there will be more demand for the bonds left in this sector,” John Hydeskov, chief analyst at Danske Bank A/S in London, wrote in an e-mailed note. “Shorter-dated bonds will be more supported by QE going forward, while longer-dated bonds will have less support and the yield curve should therefore steepen.”

Gilts have handed investors a loss of 1.6 percent this year, according to indexes compiled by Bloomberg and the European Federation of Financial Analysts Societies.

Pound Gains

The pound strengthened 0.2 percent to $1.5842, and rose 0.6 percent to 122.53 yen. The currency weakened 0.2 percent to 83.98 pence per euro.

“Today’s developments have been beneficial for the pound,” Michael Derks, chief strategist at broker FXPro Financial Services Ltd. in London, wrote in a note to clients. “The BOE’s preparedness to continue to engage in responsible monetary accommodation is gaining it some plaudits at this time of unprecedented fiscal austerity.”

The pound also rose against the dollar after a report showed U.K. manufacturing production increased more than economists forecast.

Factory output climbed 1 percent in December from the previous month, when it fell a revised 0.1 percent, the Office for National Statistics said. Economists forecast a 0.2 percent increase, according to a Bloomberg News survey.

Sterling weakened against the euro after Greece’s government reached a deal on austerity measures required for a 130 billion-euro ($173 billion) financing package.

The pound has weakened 1.3 percent this year according to Bloomberg Correlation-Weighted Indexes, which track 10 developed-nation currencies. The dollar declined 3.3 percent, and the euro dropped 0.5 percent.

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