Pound Strengthens as BOE Keeps Stimulus on Hold; Gilts Decline

The pound strengthened to a one-week high against the dollar and gilts fell after the Bank of England kept its stimulus program unchanged and China cut borrowing costs to boost growth.

Sterling rose versus all except one of its 16 major counterparts after a report showed U.K. services grew more in May than analysts forecast. Policy makers held the bond-purchase program at 325 billion pounds ($505 billion) and their benchmark rate at a record-low 0.5 percent. The decision to refrain from increasing stimulus was predicted by 37 of 42 economists surveyed by Bloomberg News. Citigroup Inc., Deutsche Bank AG, and Morgan Stanley were among banks that forecast an expansion.

“The BOE decided not to move and sterling’s rise is reflecting that,” said Gavin Friend, a markets strategist at National Australia Bank Ltd. in London. “Playing across this is the China move to spur their economy and that’s generally supportive to risk assets.”

The pound advanced 0.3 percent to $1.5549 at 4:35 p.m. London time after rising to $1.5601, the strongest level since May 30. Sterling gained 0.6 percent to 80.70 pence per euro, and appreciated 0.9 percent to 123.86 yen.

China cut interest rates for the first time since 2008, lowering the one-year deposit rate to 3.25 percent from 3.5 percent effective tomorrow, the People’s Bank of China said on its website. The one-year lending rate will fall to 6.31 percent from 6.56 percent.

Services Expand

The U.K. services gauge based on a survey of purchasing managers held at 53.3 from April, Markit Economics and the Chartered Institute of Purchasing and Supply said in London. Economists surveyed by Bloomberg News forecast a decline to 52.4. A reading above 50 indicates expansion.

Sterling has gained 2 percent this year, the best performer among 10 developed-market currencies tracked by Bloomberg Correlation-Weighted Indexes, as investors fleeing the fiscal turmoil in the euro bloc purchased U.K. assets as a haven. The dollar rose 1.9 percent, and the euro dropped 1.7 percent.

“The pound may try and break higher,” Lee Hardman, a currency strategist at Bank of Tokyo-Mitsubishi UFJ Ltd. in London, said before the BOE decision. “Any relief will only be temporary for the pound, because expectations will shift to the next meeting. We still think the pound remains under downward pressure because the U.K. economy will weaken.”

The 10-year gilt yield rose six basis points, or 0.06 percentage point, to 1.72 percent. The 4 percent bond due March 2022 fell 0.615, or 6.15 pounds per 1,000-pound face amount, to 120.335. The yield declined to a record 1.439 percent on June 1.

ECB Ready

European Central Bank President Mario Draghi said yesterday officials stand ready to act as the growth outlook worsens in the euro area, Britain’s biggest trading partner. While the ECB left its benchmark rate at 1 percent, Draghi said “a few” governing council members sought a cut.

In addition to the threats to the U.K. from the euro area, Prime Minister David Cameron’s fiscal squeeze is also weighing on Britain’s economy. The International Monetary Fund said on May 22 the U.K. may require further stimulus “via further QE and possibly cutting the policy rate.”

Cameron today called on the euro-region to step up efforts to contain the sovereign debt crisis.

“The first priority is to stabilize the financial situation,” the prime minister said in Norway. “That means recapitalization of banks, it means building of firewalls, it means reassuring markets.”

Gilts have returned 2.8 percent this year, according to indexes compiled by Bloomberg and the European Federation of Financial Analysts Societies. German bunds rose 3.8 percent, and U.S. Treasuries gained 1.7 percent.

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