UK government bonds (Gilts) rallied in the wake of the Bank of England's (BoE) decision to hold interest rates at current levels as the market lowered expectations for near-term rate rises.
Shorter-dated bonds – those maturing soonest – performed best as investors considered a rate rise during those bonds' remaining lifespan unlikely.
Yields edge lower
Bond markets are sensitive to rate rises, particularly the so-called short end - bonds maturing soonest – as yields rise when rates go up.
Yields have an inverse relationship with prices, so when yields go up, prices fall - bad news for a bond that's about to mature and pay off on its face value.
Short Sterling contracts expiring within one year led the rally, but even higher maturity Gilts joined in with the yield on the benchmark 10-year Gilt falling 1 basis point at 1.16% after the meeting and a further point to 1.15% this morning, pushing the price to 130.69.
Investors were buoyed by the BoE's Quarterly Inflation Report as three-year growth forecasts were lowered despite a slightly higher outlook on inflation.
"The message struck by the inflation report was a fairly dovish one, and implies that the BoE is unlikely to tighten policy as Brexit negotiations proceed over the next two years," said Sam Hill and Vatsala Datta at Royal Bank of Canada.
Furthermore, recent economic data have indicated that the pace of UK growth slowed in the first quarter.
Further evidence of this slowdown was published a couple of hours ahead of the BoE rate decision as industrial and manufacturing production for March both fell on the month.
Survey data more positive
Survey data, however, have indicated that businesses remain confident about future conditions – and a low interest rate environment will help this. Purchasing managers' data this month in manufacturing, services and construction have all been upbeat.
And some analysts believe the Gilt market may be a little complacent in lowering their expectations for rate increases.
"Market pricing suggests that the MPC will not hike until 2019," said Oliver Jones at Capital Economics.
He added: "There are already signs that growth has started to pick up again after Q1’s wobble, and we expect it to come in at a solid 2% or so for this year as a whole, and in 2018. And recent comments by MPC member Michael Saunders suggest that tightening could occur before the exact nature of the UK’s new relationship with the EU becomes clear."