London Market: Gains likely after hints of interest rate cuts

UK stocks and bonds are expected to gain this week on expectations that the Bank of England will cut interest rates to revive recession-gripped manufacturers. Smith- Kline Beecham and other drug-makers may gain on hopes of mergers.

The FT-SE 100 Index rose 4 per cent last week, to close at 6329.7. Pharmaceuticals gained the most with the sub-index up 10 per cent, paced by a 15 per cent surge by Glaxo- Wellcome. With no major company earnings to cloud the horizon this week, investors are concentrating on the outlook for interest rates.

"There is a good chance of action from the MPC," said Paul O'Connor, equity strategist at Credit Suisse First Boston. "Equities follow the policy cycle more than they follow macro news. Policy easing today tells you you'll get better growth tomorrow."

The majority of analysts expect the central bank's policy-setting monetary policy committee to cut rates when it meets on Wednesday and Thursday. The gilt market is still anticipating a cut, even after a survey showed retail sales rose last month. "I'm looking for a 25 basis-point cut from the MPC, and if that comes it should be a good week for gilts," said Gianpaolo Mosconi, a fixed-income analyst at Sanwa International. "I don't think the retail survey is a reason not to cut this month."

On Thursday, gilts fell as the CBI said that retail sales rose in March. The benchmark 5.75 per cent 10-year gilt yield rose 4 basis points to 4.52 per cent.

The CBI report countered the Chartered Institute of Purchasing and Supply survey which said manufacturing activity shrank for the 11th straight month, though the pace of decline slowed. The surveys sent a "strong message" that "different parts of the economy are pulling monetary policy in different ways", said Toby Jones, head of money markets at Standard Bank. He doesn't anticipate a rate cut next week.

Others point to the strength of the pound as a reason for cutting rates. Sterling is up more than 4 per cent against the currencies of Britain's major trading partners this year, and has gained about 6 per cent against the euro since its inception.

Lower rates particularly help banks, such as Abbey National and Barclays by increasing demand for loans while reducing borrowing costs. "We're looking for anything that relates to interest rate sensitivity," said Nigel Richardson, UK equity strategist at Axa, who is looking for UK rates to fall to 4.5 per cent from 5.5 per cent now.