London – UK government bonds slumped as news that the nation had reached a preliminary deal with the European Union on the Brexit bill spurred speculation that the economy will be able to withstand another rate increase.
The pound advanced as money markets brought forward pricing for the Bank of England to September next year from November 2018 earlier.
The slide in gilts (bonds issued by the British government) signals that investors see higher medium-term growth and interest-rate expectations beyond the UK’s departure from the EU in March 2019, according to Adam Dent, a rates strategist at Banco Santander SA.
Yields surged across the board after negotiators in the UK and the EU reportedly reached an outline deal on the divorce bill that Britain will pay when it leaves the bloc, clearing a key hurdle in talks and leaving the issue of the Irish border as the last major obstacle before trade negotiations can start.
“The magnitude is a little surprising,” Dent said in emailed comments. “But the news on Brexit payments last night was clearly a big relief to the market.”
Ten-year gilt yields rose 10 basis points to 1.36%, the biggest intraday jump since September 15. Sterling climbed as much as 0.7% to $1.3431, the highest level since September 29, before trading at $1.3434 as of 4:23 pm in London.
The pound advanced over the last three weeks against the dollar following the BOE’s decision on November 2 to raise rates for the first time in 10 years. Progress in Brexit talks could make further policy tightening more likely should the economy’s performance exceed the bank’s expectations, raising gilt yields still further.
“This helps to open up the topside on rates,” said Richard Kelly, a strategist at Toronto-Dominion Bank in London, who sees two rate increases next year. “You still need the headlines on Ireland to make sure everything moves forward, but we do think they will reach a compromise acceptable to both sides.”
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