London Market: Over-strong pound may give bonds a fillip

UK BONDS may rally on expectations that central bank concern about the strength of the pound will outweigh signs of an economic rebound in determining the outlook for interest rates.

"Central bankers' worries over sterling's strength mean a further cut in interest rates in June or July cannot be ruled out," said Nick Stamenkovic, senior bond strategist at Idea Global. "The surveys out this week should provide evidence that the recovery is still fragile enough to merit lower borrowing costs, and that should help gilts."

Key reports will be the surveys from the Chartered Institute of Purchasing and Supply on Monday, Tuesday and Wednesday. Also on Wednesday is the CBI's distributive trades survey.

Gilts fell last week, driving yields to their highest levels this year, as a CBI survey of industrial trends and figures showing rising house prices damped hopes for more central bank rate cuts. The benchmark 10- year bond yield rose eight basis points to a seven-month high of 4.87 per cent.

"The market is not pricing in a rate cut," said Norman McChesney at Aberdeen Asset Management. He said investors see "an element of recovery in the UK economy", which is absent in euro-zone countries.

Shares in companies that rely on the US for much of their profit - Glaxo Wellcome and BP Amoco, for example - may fall for a second week on concern that interest rates there are headed higher. Tesco and J Sainsbury may lead retailers higher on optimism that the supermarket chains will report improved sales. "All markets will dance to Wall Street's tune," said Christopher Edge, chief executive at Pavilion Asset Management.

The FT-SE 100 index rose on Friday, benefiting from a late rally in the US but still down 2 per cent on the week. Phone stocks led falls. Glaxo and BP Amoco were among the biggest decliners. The Dow Jones fell 2.77 per cent over the week.

Sainsbury's announcement will be watched for news of the supermarket's reorganisation, which has already resulted in up to 530 job cuts. "It is not about the numbers," said Sara Carter, analyst at Merrill Lynch. "The point is they are going to tell us more about the reorganisation."

Some companies that fell sharply last week may rise as investors snap up stocks made cheap by declines. "This relative decline has thrown up some opportunities," said John Hatherly, head of research at M&G Investment Management. "We are buyers of stocks which are undervalued."