U.K.-French Yield Spread Near 7-Year High on Policy Divergence

The yield difference between U.K. 10-year government bonds and similar-maturity French securities was near the most in almost seven years after central-bank decisions that highlight diverging economic prospects.

The British securities snapped a four-day drop, with the yield about five basis points from the highest since May 13. The pound rose versus the euro after the Bank of England kept interest rates unchanged, while the European Central Bank cut borrowing costs. Returns on gilts this year have trailed those on their euro-area peers by an average 2.5 percentage points on bets faster growth will prompt the BOE to raise rates while the ECB will increase stimulus to stave off deflation.

“There is a clear decoupling” in economic performance and monetary policy between the U.K. and euro area, Patrick Jacq, a fixed-income strategist at BNP Paribas SA in Paris said before the central bank decisions. “For the U.K., we expect there will be a rate hike by the end of the year and the market will gradually position for such an outcome.”

U.K. 10-year gilts yielded 85 basis points, or 0.85 percentage point, more than similar-maturity French bonds at 1 p.m. London time, up from a 2014 low of 35 basis points on Jan. 13, based on Bloomberg generic prices. The spread reached 86 basis points yesterday, the widest since July 2007.

Wider Spread

That difference will expand to about 1 percentage point by the end of 2014 as the U.K. 10-year yield rises to more than 3 percent and its French counterpart moves “just above” 2 percent, BNP’s Jacq said. The median of economists’ estimates compiled by Bloomberg is for the 10-year gilt yield to increase to 3.30 percent while the French rate climbs to 2.30 percent.

The U.K. 10-year gilt yield fell four basis points to 2.66 percent today. The 2.25 percent security due September 2023 rose 0.28, or 2.80 pounds per 1,000-pound ($1,677) face amount, to 96.63.

The nine members of the Bank of England’s Monetary Policy Committee in London left the benchmark interest rate at 0.5 percent today. They also kept asset purchases under the quantitative easing plan at 375 billion pounds.

Their peers at the ECB in Frankfurt cut the refinancing rate by 10 basis points to 0.15 percent. The ECB also set its deposit rate below zero for the first time.

The pound rose 0.3 percent to 81.03 pence per euro. Sterling was little changed at $1.6743 after sliding to $1.6699 yesterday, the weakest since May 29.

Sterling has jumped 8.6 percent in the past 12 months, the best performer among 10 developed-nation currencies tracked by Bloomberg Correlation-Weighted Indexes. The euro rose 3 percent, while the dollar slipped 1 percent.

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