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Sterling scales 7-year high against struggling euro

(Recasts, adds details, fresh quote and gilts)

LONDON, Feb 26 (Reuters) – Sterling rose to a seven-year high against the euro on Thursday, as interest rate expectations moved further in favour of British assets just days before the European Central Bank embarks on a huge asset-buying spree.

British government bond prices sharply underperformed German Bunds, however, as investors flocked into euro zone debt ahead of the launch of the ECB’s bond-buying programme.

The pound had earlier drawn support from steady economic growth in Britain, although a drop in business investment made some investors cautious ahead of the general election in May.

Data on Thursday showed firms’ investments fell at their sharpest rate in nearly six years in the last quarter of 2014, hit by lower investment in the petroleum sector as global oil prices fell.

British gross domestic product grew by 0.5 percent between October and December, slowing from 0.7 percent in the third quarter. That was the slowest quarterly growth rate in a year, but was broadly in line with expectations, and much better than euro zone growth.

The euro fell to 72.705, its lowest since December 2007 and down 0.6 percent on the day. Sterling was pegged back against the buoyant dollar, trading at $ 1.5409 after hitting an eight-week high of $ 1.5554 in Asia.

Its gains against the euro pushed the trade-weighted sterling index to a 6-1/2 year high.

“Euro/sterling has fallen more sharply than we are expecting. But having said that it is going in the right direction,” said Alvin Tan, currency strategist at Societe Generale.

“Monetary policy divergence will drive the pair but we think ahead of the election, those gains could stall.”

Sterling’s recent gains come after a steadying of expectations for the Bank of England to deliver an interest rate hike early in 2016. In contrast, the European Central Bank is set to begin a more than one-trillion-euro asset purchase programme from next month.

Earlier this week, monetary policy committee member Kristin Forbes had the most impact in a raft of comments from BoE policymakers, prodding the pound higher by saying rates could rise soon if inflationary pressures pick up quickly.

Recent data on the British economy has been solid while inflation remains close to zero. Sentiment has also been bolstered after the FTSE 100 index hit a record, surpassing a previous lifetime high set in December 1999.

“Coupled with the FTSE 100 recording a new record high this week, the UK economy appears to be recovering at just the right time for the government,” said Dennis de Jong, managing director at after the growth data was released.

The gap (NYSE: GPS – news) between 10-year gilt yields and Bunds widened to 143 basis points, up three basis points on the day. (Reporting by Anirban Nag and Andy Bruce; Editing by Catherine Evans)

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