U.K. Bonds Gain After Italian Elections; Pound Falls Below $1.50

U.K. 10-year government bonds rose for a second week, with yields falling the most in 16 months, even after the nation lost its Aaa rating and as inconclusive Italian elections boosted demand for the safest assets.

The pound slid for a third week against the dollar, falling below $1.50 for the first time since July 2010, after a report yesterday showed manufacturing unexpectedly shrank in February. Two-year note yields declined for an eighth week, the longest run since June 2011, as investors from Pacific Investment Management Co. and Ignis Asset Management said Moody’s Investors Service’s Feb. 22 decision to cut the U.K.’s rating to Aa1 from Aaa was unlikely to affect the country’s bonds.

“On the evidence of this week, gilts still appear to attract strong interest when risk appetite drops,” said Sam Hill, a fixed-income strategist at Royal Bank of Canada in London. “Markets have been more concerned about the next phase in the euro crisis, following the Italian election result, than they have been about Moody’s downgrading the U.K.”

The yield on U.K. 10-year gilts fell 24 basis points, or 0.24 percentage point, to 1.87 percent at 5 p.m. in London yesterday. That’s the biggest drop since November 2011. The 1.75 percent security due September 2022 climbed 2.03, or 20.30 pounds per 1,000-pound ($1,503) face amount, to 98.95. The two-year rate slid seven basis points to 0.20 percent.

Italian Election

Gilts advanced as Italian voters rejected the austerity program of outgoing Prime Minister Mario Monti. pre-election favorite and Democratic Party leader Pier Luigi Bersani won the lower house by less than a half a percentage point, while ex-Premier Silvio Berlusconi gained a blocking minority in the Senate.

The securities extended gains after a report yesterday showed a manufacturing gauge slid, missing analyst estimates. A Feb. 27 report showed U.K. gross domestic product fell 0.3 percent in the last quarter of 2012.

The pound dropped 0.9 percent to $1.5030 after falling to $1.4986 yesterday, the lowest level since July 2010. Sterling fell 0.6 percent to 86.46 pence per euro after reaching 88.15 pence on Feb. 25, the weakest since October 2011.

Sterling has fallen 5.5 percent this year, the worst performer among 10 developed-market currencies tracked by Bloomberg Correlation-Weighted Indexes, as speculation the Bank of England will need to add more monetary support to the U.K.’s faltering economy damped demand for the U.K. currency. The dollar gained 3.1 percent and the euro rose 1.4 percent.

Asset Purchases

The central bank will keep its asset-purchase target unchanged at 375 billion pounds when it announces its decision on March 7, according to 28 of 39 economists surveyed by Bloomberg. Nine forecast an increase of 25 billion pounds, with the remaining two predicting increases of 50 billion pounds and 75 billion pounds.

At the Bank of England’s meeting last month, three policy makers, including Governor Mervyn King, voted to increase the target, compared with one at the January meeting. Paul Fisher, who also voted to boost bond-buying, said this week he favors a more prolonged period of asset purchases at a slower pace in a program that would be guided by the economic outlook.

The U.K is scheduled to sell 4 billion pounds of securities due in July 2018 on March 5.

U.K. government bonds lost 1.1 percent this year through Feb. 28, according to indexes compiled by Bloomberg and the European Federation of Financial Analysts Societies. German bonds dropped 0.5 percent and Treasuries fell 0.2 percent.

Before it's here, it's on the Bloomberg Terminal.