Pound climbs to 2-year high versus euro

The pound gained for a second week versus the euro to its strongest level in two years as the Bank of England moves toward raising interest rates, amid slower growth in the euro area where stimulus is being expanded.

Sterling advanced against most of its 16 major peers after BoE Governor Mark Carney said the point where interest rates "begin to normalise is getting closer." It weakened versus the dollar as bets the Federal Reserve will raise rates next year boosted demand for the US currency. UK 10-year government bonds posted their first weekly gain this month.

"Euro-sterling has been the real driver this week," said Steven Saywell, the global head of foreign-exchange strategy at BNP Paribas SA in London. "You've had euro weakness and also relatively hawkish comments from Carney. That's made the market re-think about the timing of the first UK rate hike. If you are bullish sterling, you want to play it short euro-sterling."

The pound will appreciate to 76 pence per euro by year-end, BNP's Saywell said.

The UK currency appreciated 0.9 per cent this week to 78.08 pence per euro at 5:05 pm London time on Friday. It reached 77.85 pence on September 25, the strongest level since July 2012. Sterling fell 0.2 per cent to $1.6260.

"With many of the conditions for the economy to normalise now met, the point at which interest rates also begin to normalise is getting closer," Carney said on Sept. 25. "While there is always uncertainty about the future, you can expect interest rates to begin to increase."

Fed Outlook
In the U.S., projections released this month show that most Fed officials foresee an interest-rate increase some time next year. In contrast, the European Central Bank has stepped up efforts to boost its balance sheet in recent months by lowering interest rates, announcing a program of cheap loans to banks and by saying it would buy asset-backed securities and covered bonds.

Gilts advanced this week as escalating geopolitical tension in the Middle East also boosted investor appetite for fixed-income assets, while funds sought to align holdings with indexes they track for the end of the month.

The 10-year gilt yield dropped eight basis points, or 0.08 percentage point, to 2.47 percent. The 2.75 percent bond due September 2024 rose 0.665, or 6.65 pounds per 1,000-pound face amount, to 102.47.

Data next week will confirm the U.K. economy grew 0.8 percent in the second quarter, while the number of mortgage approvals dropped for a second month in August, according to the median forecast of economists in Bloomberg New surveys.

Gilts returned 7.4 percent this year through Sept. 25, Bloomberg World Bond Indexes show. Treasuries gained 3.8 percent and German securities earned 7.1 percent.