U.K. Pound Gains Against Euro as Stocks Climb; Gilts Decline

By Kim-Mai Cutler

Oct. 21 (Bloomberg) -- The British pound rose against the euro as stock markets gained for a third day, stepping up demand for the currency. Government bonds declined.

The pound rebounded from its first decline in seven days versus the European single currency yesterday. The FTSE 100 Index, a U.K. equity benchmark, climbed 41 to 4,325 in London. The Treasury plans to auction 4.75 billion pounds ($8.2 billion) of notes maturing in 2011 today to help finance a 37-billion pound rescue of the nation's banks.

The U.K. currency rose to 77.46 pence per euro as of 8:14 a.m. in London, from 77.79 pence yesterday. Against the dollar, the pound fell to $1.7120, from $1.7152.

A collapse in credit markets and the worst housing slump in a generation have buffeted the U.K. economy, Europe's second- biggest. Britain is already in a recession and the economy will contract for the next three quarters, Ernst & Young's ITEM Club, which uses the same forecasting model as the Treasury, said in a report yesterday.

The yield on the two-year note rose 1 basis point to 3.52 percent. The 4.75 percent security due June 2010 fell 0.02, or 20 pence per 1,000-pound face amount, to 101.92. The yield on the 10- year note gained 1 basis point to 4.63 percent. Bond yields move inversely to prices.

The difference in yield, or spread, between the two- and 10- year gilts stayed at about 110 basis points, near the widest since October 1996, as investors favored shorter-dated notes on speculation the Bank of England will lower borrowing costs.

Bank Bailouts

The implied yield on the March sterling interest-rate futures contract was at 3.83 percent, down from 4.1 percent a week ago. The Bank of England's main interest rate is 4.50 percent.

The government said last week it would buy stakes in Royal Bank of Scotland Group Plc, HBOS Plc and Lloyds TSB Group Plc to shore up their finances and restore confidence. In the first offering of securities to finance the rescue, the Treasury sold 1 billion pounds of notes due 2009 yesterday, yielding 3.03 percent. Investors bid for 2.13 times the size of the offering.

``The supply is there to satiate strong demand for government bonds,'' said Alessandro Tentori, a fixed-income strategist in London at BNP Paribas SA, France's biggest bank. ``As long as we're in a crisis, I'm not too worried about supply.''

One more auction is planned this week, with 3 billion pounds of notes due 2018 to be sold on Oct. 23.

To contact the reporter on this story: Kim-Mai Cutler in London at kcutler@bloomberg.net