LONDON: British government bond prices plunged on Friday after Bank of England Governor Mark Carney said interest rates could rise sooner than markets expected, in a surprisingly stark warning that policy could start to tighten within months.
Sterling rallied near five-year highs against the dollar and British stocks slumped after Carney's comments, while gilt yields shot up, particularly for the interest rate-sensitive two- and five-year bonds.
Carney had previously appeared less keen to contemplate a rate rise than some of his colleagues on the Monetary Policy Committee (MPC), but on Thursday he said that it "could happen sooner than markets currently expect".
The two-year gilt yield soared more than 13 basis points, touching a session high of 0.877 percent, its highest level in almost three years.
That puts it on track for its biggest daily gain in yields in more than three years, according to Reuters data.
Short sterling rate futures plummeted, with losses heaviest on the March to September 2015 strips as markets brought forward expectations for the next BoE interest rate hike.
"The market reaction seems quite reasonable, with the front-end (of the yield curve) taking the brunt," said Andy Chaytor, strategist at Nomura.
"We've moved from around February-March (for the first rate hike) to around December this year," he said, reading the sterling overnight interbank average curve (SONIA) dated on meetings of the MPC.
Economists polled by Reuters late last month had expected the first interest rate hike from a record low 0.5 percent to come in the second quarter of next year.
The premium that gilts offer over German Bunds rose markedly, reflecting the diverging outlooks for British interest rates and euro zone rates that were cut last week.
The yield spread between two-year British and German bonds rose to around 83 basis points, the highest level in four years.
The gap between British and German 10-year bonds yields spread to 139.6 basis points, its widest in more than 16 years.
Bunds sank with gilts after the market open, before recovering later in the session.
Separately, Britain's Debt Management Office announced its bookrunners for a new 2045 conventional gilt.
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