Pound Rises to Two-Month High Versus Euro Amid Optimism on Rates

Updated on
  • Markit's services index shows expansion in key U.K. sector
  • BOE policy makers to publish new growth forecasts Thursday

The pound climbed to the strongest level against the euro since August as a report showed growth in Britain’s services sector accelerated last month, bolstering speculation the Bank of England is moving closer to raising interest rates.

Ten-year government bond yields touched the highest since July as Federal Reserve Chair Janet Yellen said a December rate increase in the U.S., which many traders see as a precursor to liftoff by the BOE, is a “live possibility” if economic data remain strong.

With the BOE due to set borrowing costs and publish new growth and inflation forecasts on Thursday, forward contracts based on the sterling overnight index average, or Sonia, indicate that a full quarter-point boost to the official bank rate will now come in November 2016. As recently as Oct. 30, an increase wasn’t signaled until at least 2017. Still, some strategists are concerned markets may be getting ahead of themselves.

“We’ve had better data again from the U.K. and of course we’ve got the Bank of England tomorrow,” said Jane Foley, senior foreign-exchange strategist at Rabobank International in London. “Money-market rates have moved quite a lot this week. Sterling has had a lot of support, but the risk is that the BOE may not be as hawkish as the market is anticipating.”

Carney’s Tightrope

The pound appreciated 0.7 percent to 70.61 pence per euro as of 4:25 p.m. London time, after touching 70.54 pence, its strongest level since Aug. 19. Sterling declined 0.2 percent to $1.5387.

Markit Economics said its index of services activity rose to 54.9 in October from 53.3 the previous month, beating economists’ median forecast of 54.5.

Gilts slid after Yellen told lawmakers in Washington that a decision on rates liftoff will be informed by data and remains a possibility.

The 10-year gilt yield rose two basis points, or 0.02 percentage point, to 2 percent, having touched 2.01 percent, the highest since July 24. The 2 percent bond due in September 2025 fell 0.165, or 1.65 pounds per 1,000-pound face amount, to 100.025.

Speculation the BOE will be among the first developed-market central banks to raise rates has pushed a trade-weighted sterling gauge to the highest since Aug. 21. Governor Mark Carney is increasingly caught between the need to prepare households for higher borrowing costs and the risk this would encourage further currency strength that may make Britain’s economy less competitive and damage the recovery.

“The Bank of England is very nervous right now because below 71” pence per euro, the pound “is going to mess around with their inflation targets,” Geoffrey Yu, senior foreign-exchange strategist at UBS Group AG in London, said in an interview on Bloomberg Television’s “Surveillance” with Tom Keene and Jonathan Ferro. “Too strong an exchange rate will just throw everything into the open, so he has to be very careful on how he talks about the currency.”