LONDON (Reuters) - The British government bond yield curve steepened on Thursday as investors digested the Bank of England's latest economic outlook suggesting it will start to raise interest rates only in a year's time.
Yields on short-dated bonds, most sensitive to changes in interest rate expectations, fell sharply, while very long-dated gilt yields rose.
The yield spread between two- and 10-year gilts peaked at 147.3 basis points, its highest level since around late November, as the curve steepened by 4 basis points before flattening.
The 2/30-year curve reached its steepest since late February, while the 10/30-year curve widened by more than 8 basis points on the day.
The Bank on Wednesday cut its growth forecasts for the British economy over the next three years and broadly endorsed market expectations for an interest rate rise in around a year's time.
However, it also noted that the yield curve for periods after the next three years looked unusually flat, and was vulnerable to steepening as the United States moved closer to raising interest rates.
BoE Governor Mark Carney said on Thursday it was possible that British interest rates would be higher in a year's time, although the central bank would not raise them too soon and risk slowing the economy.
Jason Simpson, strategist at Societe Generale, said he was surprised by a lack of gains for short-dated gilt prices on Wednesday, given some investors were positioned for a more hawkish BoE outlook that would have hurt prices.
"I expected a slightly bigger price bounce, so perhaps there was a bit of follow-through this morning," he said.
He added that the rise in 10-year gilt prices on Thursday probably owed more to rising German debt prices.
At 1600 London time, yields on both two- and 10-year gilts were about 3 basis points lower on the day at 0.55 and 1.99 percent respectively.
The yield spread between 10-year gilts and the equivalent German Bund was unchanged at around 129 basis points.
Reporting by Andy Bruce; Editing by Mark Heinrich