* Graphic: sterling and gilt yields bit.ly/2dgAXn1
* Graphic: sterling year-to-date tmsnrt.rs/2egbfVh
(Adds details, wraps gilts)
By Andy Bruce and Anirban Nag
LONDON, Oct 17 A sell off in the British
government bond market accelerated on Monday amid nerves about
political instability, pushing the yield on the 10-year gilt to
its highest since the Brexit vote in June and weighing down on
the battered pound.
Sterling's near 20 percent sharp drop since the Brexit vote
has sent inflation expectations soaring, driving investors to
reassess chances of further easing by the Bank of England this
year. It also led some analysts to say that foreign investors
were demanding an extra premium before buying gilts.
The benchmark 10-year gilt yield was at 1.17 percent
, up around 8 basis points on the day, and having
risen to 1.20 percent earlier on Monday. It has moved in the
same direction of Bunds and U.S. Treasuries in recent days, but
the fact that gilt yields have risen at a faster pace than their
German and U.S. counterparts reflected investor nervousness.
Despite being only halfway through October, the 10-year gilt
yield is on track for one of the biggest monthly increases since
the financial crisis, up 42 basis points since the end of
September. Most of the increase this month reflected
expectations of higher inflation: conventional bond yields rose
fast but inflation-protected bonds were little changed.
But in the last few days, inflation-protected bond prices
have lost ground too.
"That does hint that there's a bit more of a risk premium
being put into gilts overall than there was before," said Jason
Simpson, strategist at Societe Generale.
The sell off came on media reports of disagreements between
the finance minister and his cabinet colleagues over the terms
of Britain's exit from the European Union.
The Daily Telegraph said Philip Hammond could quit his post
after he was excluded from government meetings because he
criticised the "hard" Brexit stance of Prime Minister Theresa
May. Although the Treasury denied that Hammond will quit, it did
little to instill confidence in British assets, traders said.
May's spokeswoman told reporters on Monday that the prime
minister had every confidence in Hammond, and that she was keen
to listen to "differing views" among her top team.
"You've got all this backdrop of "hard Brexit", fiscal
easing - a lot of quite negative stories out there for gilts.
You couldn't nominate one specific driver," said Simpson.
Gilt yields have increased despite the BoE purchasing bonds
worth about 14 billion pounds a month. But because the market
had anticipated a further expansion of monetary policy - which
now looks more unlikely this year - yields have surged back as
these expectations unwound.
Simpson added that money markets now priced in only an
around 10 percent chance of an interest rate cut in November.
EYES ON INFLATION
Inflation figures on Tuesday mark the next major event.
Economists expect consumer prices rose by 0.9 percent in the
year to September, up from 0.6 percent in August.
Inflation is expected to rise above 2 percent in 2017
because of a sharp fall in the value of the pound. At the same
time, the economy is expected to slow as Britain begins the
process of leaving the EU and tries to negotiate new trade
deals, leaving the economy facing a potentially toxic mix of a
tumbling currency, rising yields, accelerating inflation and
BoE Governor Mark Carney told a public meeting on Friday
that he was willing to allow inflation to run "a bit" higher
than the central bank's 2-percent target to help employment and
allow Britain's economy to grow.
Nonethless, sterling fell to $1.2165, having lost
over 6 percent in the past two weeks after May raised the
spectre of a "hard" Brexit, where the government will negotiate
for an exit that favours tighter immigration controls over free
trade, likely curbing foreign investment needed to fund
Britain's huge current account deficit.
Trade-weighted sterling was at 73.8, not far from a record
low of 73.4 struck last week.
Traders said the selloff in gilts was hurting sentiment.
"Investors are beginning to demand a higher premium for
holding UK government debt because of two factors - the
political uncertainty and risks about the economic impact of
Brexit, and inflation expectations are rising on the back of a
rapidly declining pound," said Kathleen Brooks, research
director at City Index, a local brokerage.
(Writing by Anirban Nag; Editing by Alison Williams)