Pound Declines After U.K. Home Lender Gets Emergency Funding

By Anchalee Worrachate and Kosuke Goto

Sept. 14 (Bloomberg) -- The pound fell to a 14-month low against the euro after Northern Rock Plc received the biggest emergency bailout of a British lender in 30 years.

The pound was set for its steepest weekly decline in almost two years on speculation turmoil in the financial markets will prevent the Bank of England from raising interest rates. Northern Rock said it applied for cash from the central bank to ease a ``severe liquidity squeeze,'' because of a squeeze on global credit following a surge in U.S. mortgage defaults.

``Northern Rock's just the latest bad news, and there's probably more to come; the pound's looking increasingly vulnerable,'' said Peter Lucas, chief investment officer at Ashburton Ltd, which manages $1.7 billion in Jersey, the Channel Islands. ``We've been diversifying out of the pound as we see much better investment opportunities elsewhere.''

The pound fell for a third day versus the euro, heading for its biggest weekly drop since November 2005, to 68.89 pence by 1:37 p.m. in London. It earlier reached the lowest since July 2006.

The U.K. currency was poised for a weekly loss versus 15 out of the 16 most-traded currencies. It snapped a three-week advance against the dollar, falling to $2.0155 from $2.0252 yesterday and $2.0287 on Sept. 7.

Investors pared bets the Bank of England will raise borrowing costs this year, interest-rate futures show.

The yield on the December sterling contract fell 13 basis points to 6.17 percent. The contract settles to the three-month London interbank offered rate for the pound, which has averaged about 15 basis points more than the central bank's key rate for the past decade.

Safe Assets

U.K. gilts advanced as the financial-market turmoil stoked demand for the safety of government debt. The yield on the two- year note fell 7 basis points to 5.07 percent, after yesterday touching a nine-month low. It fell 13 basis points on the week.

The price of the 4 percent security due March 2009 rose 0.11, or 1.1 pounds per 1,000-pound ($2,012) face amount, to 98.50.

Ten-year yields dropped 6 basis points to 4.86 percent, near the lowest since March.

Gilts outperformed European debt today on speculation U.K. interest rates have peaked. The extra yield investors demand for holding 10-year gilts over the equivalent German bund narrowed to 72 basis points, the lowest since August last year.

``The fact this procedure has been triggered at all is a stark illustration of how deep and wide the problems afflicting money markets are spreading,'' said John Wraith, head of U.K. interest-rate strategy at Royal Bank of Scotland Group Plc.

Lehman Brothers Holdings Inc. said after the Northern Rock loan that the U.K. central bank will no longer raise rates from 5.75 percent this year. It had previously forecast borrowing costs would peak at 6 percent.

`Blow for Sterling'

``It's a blow for sterling,'' said Sean Callow, senior currency strategist at Westpac Banking Corp. in Singapore. ``What's worrying is that it's a very big name in the U.K.''

The economy may slow next year as higher credit costs shave as much as 1 percentage point from the pace of growth, the Ernst & Young Item Club predicted today. U.K. gross domestic product grew 3 percent year-on-year for the most recent period available, according to Bloomberg data.

The pound was also hurt after a report from Rightmove Plc, Britain's biggest real-estate Web site, said London house prices fell the most in three years in September after five interest- rate increases in the past year curbed spending.

The U.K. currency pared losses versus the dollar after a report showed U.S. advance retail sales grew less than forecast in August. Sales grew 0.3 percent, from a revised 0.5 percent in July, the U.S. Census Bureau said.

The pound also fell versus Japan's currency, dropping almost 1 percent to 230.90, while gaining 0.4 percent on the week. It was at a 16-year low of 251.14 yen on July 23.

Subprime Crisis

``This news raised concern the U.S. subprime loan problem has been negatively affecting more and more entities worldwide,'' said Masafumi Yamamoto, economist at Nikko Citigroup Ltd. in Tokyo and a former Bank of Japan trader. ``More bad news may come in the coming months, bringing the yen higher.''

Credit-default swaps based on Northern Rock's debt rose 35 basis points to 165 basis points today, according to Deutsche Bank AG prices. That indicates a drop in perceptions of its credit quality.

The loan will be made at a ``punitive rate of interest,'' according to the British Broadcasting Corp.

Northern Rock gets a higher proportion of its funding from the money markets than rivals such as HBOS Plc.

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