Pound at 8-month peak on strong economy, gilt yields stay high
* Sterling trade-weighted index hits 8-month high
* Pound at 8-month peak vs euro, 7-1/2 mth high vs dollar
* Buoyant economy lifts pound, construction data strong
* UK 10-year bond yields stay close to 2-year highs
By Jessica Mortimer
LONDON, Sept 13 (Reuters) - Sterling rose to its highest in around eight months against the euro and a trade-weighted basket of currencies on Friday as it continued to rise on the back of growing evidence of a strengthening British economy.
Figures on Friday showed UK construction output rose by 2.2 percent in July from June, while new orders jumped in the second quarter.
Recent strong UK data has led markets to price in a rise in interest rates well before the Bank of England has flagged. Short sterling futures show the market is pricing in the risk of a UK rate hike as soon as late next year.
Gilt yields dipped but remained near two-year highs.
The pound rose to its highest in nearly eight months against the euro of 83.59 pence per euro. It also hit $1.5872 against the dollar, its strongest since early February.
The BoE has said it does not plan to raise interest rates before UK unemployment falls to 7 percent, which it does not forecast to happen until late 2016.
"Sterling has been picking up support on the back of stronger UK data," said Ian Stannard, currency strategist at Morgan Stanley (Xetra: 885836 - news) . "We have been participating in that move via short euro/sterling positions," he said, adding Morgan Stanley expected the euro to drop towards the 82 pence area.
However, he was more cautious on the pound over the longer term as questions marks remained over how broad-based the UK recovery was.
The pound was helped by below-forecast U.S. retail sales and sentiment data, which dented the outlook for the U.S. economy and weighed on its currency.
Strong gains against the euro and the dollar helped the pound's trade-weighted index hit its highest since early January at 82.9.
"The uptrend for sterling still seems in place. There is no reason to expect that to change just yet," said Richard Wiltshire, chief FX broker at ETX Capital.
"Short-term momentum is still bullish and I wouldn't be surprised to see a test of $1.60 before too long."
Analysts at CitiFX Technicals said they entered a long sterling position at $1.5807, with an initial target of $1.63 and a stop at $1.56.
GILT YIELDS NEAR 2-YEAR HIGHS
On Thursday, BoE Governor Mark Carney said the British economy was gaining momentum, lifting sterling as investors concluded that he was making no attempt to temper the recent rise in short-term UK market rates.
British government bond yields dipped slightly, in line with Bunds. This kept the 10-year yield spread between UK and German yields just below a three-year high of 105 basis points struck earlier this week.
This increasing spread has enhanced the appeal of British over euro zone assets and helped lift sterling against the euro.
Ten-year gilt yields were down 3 basis points at 2.91 percent. They hit a two-year high above 3 percent earlier this week but have failed to make much traction since, suggesting stiff resistance.
December gilt futures were up 26 ticks at 108.30.