Gilts Drop a Third Day as U.K. House Prices Increase to Record

U.K. government bonds declined for a third day as a report showed house prices climbed to a record in May amid an economic recovery that sent 10-year yields to the highest since 2011 earlier this year.

Gilts fell along with Treasuries and German bonds amid signs of global growth after a report showed a Chinese manufacturing gauge rose to a four-month high. While the Bank of England is forecast to keep its benchmark interest rate unchanged at a record-low 0.5 percent this week, economists predict policy makers will raise borrowing costs by the first quarter of next year. The pound fell against the euro.

“While the Bank of England looks set to keep its powder dry this week, given the lack of wage pressure, the strengthening U.K. economy points to a modest tightening in early 2015,” said Nick Stamenkovic, a fixed-income strategist at RIA Capital Markets in Edinburgh. “Gilt yields are too low given the strong economy. They should gravitate higher over the medium term.”

The yield on 10-year gilts rose four basis points, or 0.04 percentage point, to 2.65 percent at 4:21 p.m. London time. The 2.25 percent bond due September 2023 fell 0.29, or 2.90 pounds per 1,000-pound ($1,675) face amount, to 96.73. Two-year note rates climbed one basis point to 0.70 percent.

Five-year yields rose three basis points to 1.93 percent. The Debt Management Office sold 4 billion pounds of bonds maturing in 2019 at an average yield of 1.936 percent. The sale attracted bids 1.6 times the amount of securities on offer.

Yield Spread

The yield difference between two- and 10-year securities rose to 195 basis points, the most on a market-close basis since May 1. The steeper yield curve suggested investors demand higher returns for holding longer-dated bonds to compensate for inflation risk as growth accelerates.

Gilts returned 3.5 percent this year through yesterday, according to Bloomberg World Bond Indexes. Treasuries earned 3.2 percent and German securities gained 4.1 percent.

Home values increased 0.7 percent from April to an average 186,512 pounds, the Nationwide Building Society said today. That’s just above the previous peak of 186,044 pounds reached in October 2007, a month after the near-collapse of Northern Rock bank. Prices plunged about 15 percent over the following 12 months.

A separate report showed U.K. construction expanded for a 13th month. A purchasing managers’ index declined to 60 from 60.8 in April, Markit Economics said today in London. While the pace of expansion is slowing, the gauge has been above the 50 level that signifies growth for more than a year.

Growth Forecast

The British Chambers of Commerce last week raised its growth forecast for the U.K., and sees 3.1 percent expansion this year versus a previous estimate of 2.8 percent. The group said gross domestic product will surpass its pre-recession peak this quarter and raised its growth forecast for 2015 to 2.7 percent from 2.5 percent.

Policy makers will start increasing the benchmark rate during the first three months of next year, with borrowing costs rising to 1 percent by the third quarter, according to the weighted average of analyst estimates compiled by Bloomberg.

The pound weakened 0.3 percent to 81.41 pence per euro. It was little changed at $1.6741. A Deutsche Bank AG trade-weighted index of the pound climbed to 83 on May 22, the most since November 2008. It was at 82.43 today.

“Any setback will be brief,” said Peter Kinsella, a senior currency strategist at Commerzbank AG in London. “It really feels like the pound is bulletproof. The pound is supported by data, which consistently prints at robust levels.”

The pound has appreciated 9.6 percent in the past year, the best performer among 10 developed-nation currencies tracked by Bloomberg Correlation-Weighted Indexes, as a strengthening U.K. economy boosted speculation the Bank of England will raise rates sooner than policy makers anticipated. The euro gained 4 percent, while the dollar weakened 0.7 percent.

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