(Reuters) - European stocks and government bonds rallied on Wednesday as good news on UK inflation added to a picture of cooling price pressures globally, although the data slammed the brakes on sterling's recent winning streak.
Headline British consumer price inflation fell to 7.9% year-on-year in June, against expectations for 8.2%, in the latest downside surprise for a major economy after more than 18 months of central banks cranking interest rates higher.
Sterling lost 0.6% to trade at $1.2961. It remained 4.75% higher for the last three months, having boomed on speculation the U.S. Federal Reserve would end its rate hikes before the Bank of England does. Against the euro the pound was 0.7% lower at 86.76 pence.
The BoE now had "the green light" for a 25 basis point (bps) rate rise next month, Pantheon Macroeconomics chief UK economist Samuel Tombs said, after markets had previously priced a further 50 bps hike.
"Profit taking in sterling should not be a surprise," added Kenneth Broux, head of FX and rates corporate research at Societe Generale (OTC:SCGLY) in London.
News of disinflation in the UK also generated optimism that euro-zone price increases may decelerate more rapidly than economists had forecast, helping the pan-European Stoxx 600 share index gain 0.5% in early dealings.
In bond markets, the yield on the two-year UK gilt, which tracks interest rate expectations and moves inversely to the price of the government debt security, dropped 25 bps to 5.083%.
It was set for its biggest one-day fall since March.
Germany's two-year bond yield dropped 7 bps to 3.179%. The 10-year yield, a benchmark for debt costs in the Euro-zone, fell 5 bps to 2.35%.
Euro-zone bonds also benefited from comments by European Central Bank (ECB) governing council member Klaas Knot on Tuesday that rate hikes beyond next week's meeting were "by no means a certainty."
"This is perhaps the first time a known hawk within the ECB has backed the market’s view that we’re close to the end of the hiking cycle in Europe," said Chris Weston, head of research at broker Pepperstone in Melbourne.
Benchmark 10-year U.S. Treasuries yields were 5 basis points lower at 3.772%.
The yen slipped to a one-week low of 139.43 per dollar and Japanese government bonds rallied following the Bank of Japan's governor sticking to his script that policy shifts are still some time away.