By Siddarth S and Khushi Singh
(Reuters) -UK stocks gained on Wednesday after data showing a surprise fall in inflation in August boosted speculation the Bank of England (BoE) was nearing the end of its interest rate hiking cycle.
The exporter-heavy FTSE 100 closed up 0.9% as sterling fell to its lowest since late May. The midcap index added 1.6%, snapping a three-day losing streak.
Britain's annual consumer price inflation (CPI) unexpectedly fell to 6.7% last month from 6.8% in July, data showed, prompting investors to bolster bets that the BoE would pause its historic run of rate hikes as soon as Thursday.
Economists had forecast CPI would rise 7.0%.
"I'm still expecting a hike because growth is weak but inflation, although it's a little bit lower than expectations, it's still very high," said Patrick Armstrong, chief investment officer at Plurimi Wealth.
"However, if the BoE hikes rates tomorrow, that probably will be the last one."
Money markets are betting on a near 52% chance for the BoE to hold interest rates steady at 5.25% on Thursday.
Deutsche Bank (ETR:DBKGn) and Goldman Sachs (NYSE:GS) also expect the BoE to keep interest rates unchanged then.
Meanwhile, the U.S. Federal Reserve is also widely expected to keep rates unchanged at the end of its monetary policy meeting at 2 p.m. ET (1800 GMT) on Wednesday.
Rate-sensitive homebuilder stocks jumped 4.4%, leading sectoral gains and touching their highest levels in two months.
Residential developer Taylor Wimpey (LON:TW) and Barratt Developments (LON:BDEV) led gains on the FTSE 100, rising 5.6% and 4.7% respectively.
Elementis (LON:ELM) led gains on the mid-cap index, adding 10.6% as the chemicals group rebuffed calls by one of its major shareholders to sell the company.
M&G (LON:MNG) rose 1.7% after the insurer posted a better-than-expected 31% rise in first-half operating profit.
PageGroup climbed 1.8% after the recruiting firm said it was targeting 1.5 billion pounds ($1.85 billion) in shareholder returns and operating profits of 400 million pounds by 2030.