Bloomberg News

Pound Slides Versus Euro on Bets BOE Will Increase Bond Buying

January 12, 2012

Jan. 12 (Bloomberg) -- The pound fell the most in seven weeks against the euro amid speculation the Bank of England will expand its bond-buying program this year to spur growth after keeping monetary policy unchanged at a meeting today.

Sterling dropped to a two-month low against the dollar and reached the weakest in five months versus Australia’s currency. The pound extended its decline versus the euro as European Central Bank President Mario Draghi said he saw signs of stability in the single-currency area. Gilts dropped after Spain raised almost double the maximum target at a bond sale today, reducing demand for safer assets.

“There is still downward pressure on sterling given the Bank of England is likely to expand the quantitative-easing program to prevent the economy from going into recession,” said Lee Hardman, a currency strategist at Bank of Tokyo-Mitsubishi UFJ Ltd. in London. “The ECB sounded more optimistic today and that triggered” some investors to end bets that the euro will weaken against the pound, he said.

The pound dropped 0.9 percent to 83.61 pence per euro at 4:35 p.m. in London after falling as much as 1 percent, the most since Nov. 21. Sterling was little changed at $1.5335 after sliding to $1.5279, the least since Oct. 6. The currency fell to A$1.4801, the weakest since Aug. 1, before trading little changed at A$1.4877.

The Monetary Policy Committee kept its benchmark interest rate at 0.5 percent, and maintained its asset-purchase target at 275 billion pounds, as forecast in Bloomberg News survey of economists. The central bank has been buying about 5.1 billion pounds of gilts a week since October.

‘Difficult Year’

The Bank of England cut its 2012 growth forecast in November, a month after it increased its so-called quantitative easing target by 75 billion pounds. Prime Minister David Cameron said on Jan. 5 this will be a “difficult year.”

The pound also fell after a government report showed U.K. manufacturing production shrank for a second month in November.

Factory output dropped 0.2 percent from the previous month, when it declined a revised 0.9 percent, the Office for National Statistics said. The trade deficit widened to 8.64 billion pounds in November from a revised 7.87 billion pounds in October, the office said yesterday.

Gilts fell after Spanish and Italian borrowing costs declined at auctions today, fueling speculation the European sovereign-debt crisis is easing.

Spain sold new benchmark three-year debt at an average yield of 3.384 percent, down from 5.187 percent at the previous offering on Dec. 1. Italy auctioned one-year bills at 2.735 percent, versus 5.952 percent at the prior sale on Dec. 12.

‘Take Profits’

“Gilts are quite rich on an outright basis and some investors may want to use this opportunity to take profits,” said Vatsala Datta, an interest-rate strategist at Lloyds Bank Corporate Markets in London. “Longer-term, there’s scope for gilts to outperform German bonds again because of the debt crisis.”

The yield on the 10-year gilt rose one basis point to 2.02 percent. The 3.75 percent bond due in September 2021 fell 0.135, or 1.35 pound per 1,000 pound face amount, to 115.105. Two-year rates climbed two basis points to 0.4 percent.

Speaking after the ECB left its benchmark rate at 1 percent, Draghi said there were some signs the euro-area economy is steadying even as the sovereign-debt crisis poses downside risks to the outlook.

“There are tentative signs of stabilization of economic activity at low levels,” Draghi said at a press conference in Frankfurt. “The economic outlook remains subject to high uncertainty and substantial downside risks,” he said.

Rate Forecast

The ECB will lower borrowing costs by a further 25 basis points to 0.75 percent by the end of the first quarter, while the Bank of England will keep its main rate at 0.5 percent, according to economist forecasts compiled by Bloomberg.

“We continue to view rallies in the euro against the pound as selling opportunities,” said Jane Foley, a senior currency strategist at Rabobank International in London. “Despite the quantitative-easing risk, the U.K.’s position outside the European Monetary Union is likely to draw further support for the pound.”

The U.K. 10-year break-even rate, a gauge of market inflation expectations derived from the difference in yield between regular and index-linked bonds, narrowed for a fourth day, shrinking one basis point to 2.7 percentage points.

The implied yield on short-sterling interest-rate futures maturing in March fell seven basis points to 1.01 percent, signaling investors are increasing bets that the central bank will loosen monetary policy further.

--Editors: Nicholas Reynolds, Paul Dobson

To contact the reporter on this story: Anchalee Worrachate in London at aworrachate@bloomberg.net

To contact the editor responsible for this story: Daniel Tilles at dtilles@bloomberg.net


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