Gilts dive after Bank of England holds fire on QE

LONDON: British government bonds endured their sharpest fall in three weeks on Thursday after the Bank of England shied away from restarting its programme of gilt purchases.

June gilt futures fell 63 ticks to 116.13, underperforming Bund futures and ending the session at their lowest level this month.

Disappointing news on Britain's economy and dovish rhetoric from the central bank last week had prompted a rush to bet on more QE, helping gilts notch up their best weekly rally since November 2011.

"There's a lot of disappointment that the BoE didn't do anything, particularly at the long end of the curve," said Nick Stamenkovic, bond strategist at Ria Capital Markets.

Any extension of the BoE's gilt-buying programme would have been expected to be concentrated in longer maturities. The central bank has pledged not to buy more than 70 percent of the free float in any gilt and is already close to that limit in several medium-dated issues.

Two-year gilt yields rose 3 basis points to 0.25 percent , 10-year gilt yields rallied 6 basis points to 2.02 percent and 20-year yields gained 7 basis points to 2.96 percent.

The spread between 10-year gilts and Bunds ended 2 basis points wider at 53 basis points, reflecting the poorer performance of the UK debt.

Still, with few other policy tools available to help kickstart the economy, some analysts took the view that another dose of monetary stimulus from Britain's central bank had merely been postponed.

There is also the prospect that minutes from the meeting when they are published later this month may show the vote was even closer than the previous month, when Governor Mervyn King and two other members of the nine-strong committee voted for more purchases.

"Realistic options for loosening other than QE all come with drawbacks," said Simon Hayes at Barclays.

Prime Minister David Cameron insisted on Thursday that he would not water down his deficit-cutting pledge, putting the onus on the BoE to support growth.

A front-page Financial Times story that the government could change the central bank's remit added to the impression that fiscal policy would stay tight and monetary policy loose.

In practice, the BoE is already adopting a flexible interpretation of its remit -- which is to target inflation at 2 percent on a two-year horizon -- so tweaks to the wording may make little difference.

Alongside its monetary policy announcement, the BoE also gave details of how it would reinvest 6.6 billion pounds of proceeds from the redemption of the March 2013 gilt. It said proceeds would be evenly split between its existing three maturity baskets -- 3-7 years, 7 to 15 years and 15+ years.