Pound Declines After House Prices Fall Most Since at Least 2002

By Andrew MacAskill and Lukanyo Mnyanda

Aug. 18 (Bloomberg) -- The pound dropped against the euro and traded near a two-year low versus the dollar after U.K. house prices posted their biggest annual decline in August since at least 2002, strengthening the case for lower interest rates.

The U.K. currency has tumbled more than 7 percent against the dollar this month amid speculation falling property prices and rising joblessness will push the economy, Europe's second largest, into a recession. It fell against the euro as Rightmove Plc, Britain's most-used property Web site, said the average asking price for a house fell almost 5 percent.

``As far as sterling is concerned we are still very bearish over the medium term,'' said Ian Stannard, a senior currency strategist in London at BNP Paribas SA, the largest French bank. Today's data ``is consistent with our view that the U.K. is heading into a recession.''

The British currency declined as much as 0.5 percent to 79.08 pence per euro and was at 78.83 pence by 2:36 p.m. in London, from 78.70 pence at the end of last week. It was at $1.8673, from $1.8668. It slipped to $1.8512 on Aug. 15, the lowest since July 26, 2006. The pound may drop to $1.82 by the end of the month, Stannard said.

Britain's currency dropped versus its U.S. counterpart in each of the 11 trading days through Aug. 15, the longest run of losses in at least 37 years, amid speculation the faltering economy will force the central bank to cut rates.

The pound slumped almost 3 percent against the dollar last week, its biggest five-day loss since the period through July 1, 2005, after Bank of England Governor Mervyn King said the housing market faces ``a significant adjustment'' as banks ration loans for homebuyers. Falling prices may exacerbate the economic slowdown as the threat of a recession looms and unemployment rises the most in 16 years.

Recession Forecast

Britain's gross domestic product will either stagnate or contract in the next two or three quarters, meaning the economy may fall into a recession, the British Chambers of Commerce said in forecasts released today.

Government bonds, which have risen in the past four weeks, dropped today. The yield on the 10-year gilt rose 2 basis points to 4.59 percent today. The price of the 5 percent security due March 2018 fell 0.16, or 1.6 pounds per 1,000-pound ($1,867) face amount, to 103.13. The yield on the two-year gilt, which is more sensitive to the outlook for interest rates, rose 3 basis points to 4.54 percent. It has dropped from 4.74 percent a week ago. Bond yields move inversely to prices.

The 10-year gilt today yielded 44 basis points more than the German bund. The spread has narrowed from 69 basis points on Feb. 25, the widest this year, as the end of a decade-long rally in the nation's housing market prompted investors to bet the economy will slow enough to prompt rate cuts.

Bond Returns

U.K. bonds have returned 2.4 percent in the past three months, compared with 1.3 percent by their European counterparts, according to Merrill Lynch & Co.'s EMU Direct Government and U.K. gilts Master indexes.

The pound has lost almost 11 percent since reaching a 26- year-high of $2.1161 on Nov. 9 as the Federal Reserve slashed interest rates seven times to 2 percent from 5.25 percent since September. The BOE cut its main rate by 0.75 percentage point in the period.

The average asking price for a home fell 4.8 percent in August from a year earlier to 229,816 pounds, Rightmove said in a statement today. On the month, house values dropped 2.3 percent, the most since December, led by London.

Losses by the pound may be limited as some investors bet an inflation rate more than twice the central bank's 2 percent target will prevent the Bank of England from cutting rates. Inflation may exceed 5 percent before slowing to just below 2 percent in two years if interest rates stay on hold, the bank said Aug. 13.

`Extended Pause'

``It's going to be pretty hard for the BOE to cut interest rates and we could be in for an extended pause'' in the pound's decline, Adrian Schmidt, a London-based senior currency strategist for Royal Bank of Scotland Group Plc, said in a Bloomberg Television interview. Sterling ``might drift back up to $1.90.''

Confidence in the nation's business prospects fell to the lowest level in at least six years, according to a survey of more than 200 companies released by Lloyds TSB Group Plc today. The index of sentiment on the next 12 months fell to 22 in July, the lowest since the survey began in 2002, from 32 in June.

The economy probably grew 0.1 percent in the second quarter, less than previously estimated and matching the slowest pace since the aftermath of the last recession in 1992, the median forecast of 34 economists surveyed by Bloomberg News shows. The statistics office will publish the figures Aug. 22.

The central bank kept its benchmark interest rate at 5 percent on Aug. 7 for a fourth month, as policy makers weighed the risk of accelerating inflation against the threat of a recession. Minutes of their meeting, showing how the panel voted, will be released on Aug. 20.

To contact the reporter on this story: Andrew MacAskill in London at amacaskill@bloomberg.net; Lukanyo Mnyanda in London at lmnyanda@bloomberg.net