LONDON: British government bonds drifted lower on Wednesday after the Bank of England struck a rare upbeat note on the economy, although the bank's caution about the economy's underlying strength capped gilts' losses.
For the first time in years, the central bank predicted that Britain's economic growth would be faster and inflation lower than it expected three months earlier. However, BoE Governor Mervyn King said the better forecasts did not mean the recovery was secure.
The bank noted that monetary policy remained "highly stimulatory" and gave no indication that more quantitative easing - so far in the form of gilt purchases - was on its way.
June gilt futures settled 32 ticks lower at 117.53, while equivalent Bunds were 10 ticks down.
"The history of the past five years is that the BoE and thus the market reacts to growth and not inflation, and thus growth optimism overshadows a less worrisome inflation profile for now," said Andy Chaytor, strategist at Nomura.
"However, the bank's forecasting ability should not be assumed to be perfect ... and this modest optimism on economic recovery might be temporary," he added.
Labour market data released early on Wednesday painted a patchy picture of Britain's economy, with both jobless and employment rates falling and pay growth slowing further.
This week's only remaining domestic event of interest to gilt investors is an auction of 2.5 billion pounds ($3.8 billion) of 2044 gilts on Thursday.
Analysts said the paper should meet reasonable demand, not least because it will be the last sale of conventional gilts until June 11.
Otherwise, the market - especially the 10-year sector which moves broadly in line with gilt futures - is likely to follow developments elsewhere.
Overall, analysts expect gilts to underperform German debt in the coming months.
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