Pound Rises to 26-Year High on Quicker-Than-Expected Inflation

Pound Rises to 26-Year High on Quicker-Than-Expected Inflation

http://www.bloomberg.com/apps/news?pid=20601102&sid=aosol1bdM.HM&refer=uk

By Gavin Finch


British pound coins on display July 17 (Bloomberg) -- The pound rose to a 26-year high against the dollar after a report showed U.K. inflation exceeded the Bank of England's 2 percent target for a 14th month in June.

The U.K. currency posted its biggest gain in a week on speculation the BOE will keep raising interest rates while the Federal Reserve stays on hold, increasing the attraction of pound-denominated assets. Investors raised bets on how high BOE policy makers will lift borrowing costs following the release of the inflation report, futures trading shows.

``The pound's going to appreciate further,'' said Paul Chertkow, global head of currency research at Bank of Tokyo- Mitsubishi UFJ Ltd. in London. ``The interest-rate story is the key one; rates in the U.K. are clearly going to go up another quarter-point, while in the U.S. they probably won't change.''

Against the dollar, the pound rose to $2.0459, the highest since June 1981, and traded at $2.0452 by 12:40 p.m. in London, from $2.0361 yesterday. The U.K. currency also advanced to 67.35 pence per euro, from 67.58 on July 16.

Consumer prices increased an annual 2.4 percent after gaining 2.5 percent in May, the Office for National Statistics said today in London. Economists expected a rate of 2.3 percent, according to a Bloomberg News survey. Excluding energy, food, alcohol and tobacco, prices rose 2 percent, the most in a decade, the report showed.

Expectations for inflation in Europe's second biggest economy have risen this month. The two-year breakeven rate, the yield gap between a regular two-year U.K. gilt and its equivalent index-linked bond, rose to 3.26 percentage points from 3.15 percentage points at the end of June.

Overseas Investors

Overseas holdings of U.K. government debt matched a record 30 percent of outstanding securities in the first quarter, according to Debt Management Office figures, further buoying the pound.

``We expect the pound to remain above $2 this year,'' said Gabriel de Kock, chief currency economist at Citigroup Global Markets in New York.

The currency's advance will be driven by ``a combination of carry trades, interest-rate expectations, and central bank diversification,'' de Kock said.

Two-year gilts reversed yesterday's gains after the inflation report, sending yields to near the highest in a week.

Two-year notes yielded 86 basis points more than U.S. Treasuries with a similar maturity today, about double that at the start of the year.

U.K. Gilts

The yield on the two-year gilt, among the securities most sensitive to rate expectations, rose 3 basis points to 5.75 percent in London, after sliding 3 basis points yesterday.

The price of the 4 percent note due March 2009, which moves inversely to the yield, fell 0.04, or 40 pence per 1,000-pound ($2,045) face amount, to 97.29.

Investors expect the Bank of England to raise borrowing costs a further quarter-point and are adding to bets on another move to 6.25 percent by the end of the year, interest-rate futures trading shows.

The implied yield on the December futures contract has risen 18 basis points since the end of May to 6.32 percent.

The contract settles to the three-month London inter-bank offered rate for the pound, which has averaged about 15 basis points more than the central bank's key rate for the past decade.