UK bonds on track for biggest gains since November after Ukraine invasion

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[February 24, 2022]    By David Milliken

LONDON (Reuters) - British government bonds were on course for their biggest daily gains since late November on Thursday, joining a broader rally in safe-haven assets after Russia invaded Ukraine.

A bank employee counts pound notes at Kasikornbank in Bangkok, Thailand, October 12, 2010. REUTERS/Sukree Sukplang

Benchmark 10-year gilt yields were 8 basis points lower on the day at 1.40% at 1223 GMT and earlier in the day fell as low as 1.375%, as prices rose in line with German Bunds and slightly lagged behind U.S. Treasuries.

Ten-year gilt yields last fell more on Nov. 26, when they dropped 14 basis points on the day due to concerns about the Omicron variant of coronavirus.

"Inflation in the UK will now probably rise beyond the 7.5% peak we had expected in April and will remain higher for longer," Thomas Pugh, economist at accountants RSM UK, said.

Russia and Ukraine account for a quarter of world wheat exports and the conflict risked pushing up food prices in Britain, he added.

"All this will exacerbate the cost of living crisis and depress GDP growth," he said.

Two-year gilt yields, which are sensitive to interest-rate expectations, dropped 7 basis points on the day to 1.24% and earlier touched their lowest since the BoE's last policy statement Feb. 4 at 1.199%.

Financial markets still expect the BoE to raise interest rates again after its next meeting ends on March 17, taking the Bank Rate to 0.75% from 0.5%.

"The conflict will not derail plans for policy tightening this year, but the events of the past 24 hours have tipped the balance towards erring on the side of caution," Capital Economics said in a note.

"The risks are greatest for the euro-zone because of its closer ties to Russia."

As tensions between Russia and Ukraine have increased in recent days, markets have scaled back their expectations of how high rates will rise this year to 1.75% from around 2%, and see less chance of a half-point rate rise at future BoE meetings.

(Reporting by David Milliken; editing by William James and Frank Jack Daniel)

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