Sterling hovers near recent lows as rates seen on hold

LONDON: Sterling eased towards five month lows against the US dollar on Wednesday, as investors gear up for the Bank of England to keep policy on hold and speculation brews that policymakers may consider more monetary stimulus.

Sterling may get a boost from an expected rebound in industrial output data at 0830 GMT, but any bounce is likely to prove to be a selling opportunity as a recovery in the UK remains patchy and the Bank of England is likely to keep rates at ultra-low levels in the months to come.

In contrast, the European Central Bank is set to hike rates on Thursday, a move that will widen interest rate differentials between the euro zone and UK and keep the pound under pressure.

Sterling was down 0.15 percent at $1.5974, having fallen past stops below $1.5960 earlier in Asia, to hit a low of $1.5944. More sell-stops are cited below $1.5900, but traders said there was reasonable support from longer-term investors like sovereign funds around $1.5912--the low hit on June 28.

The euro was steady at 89.40 pence, having got a boost from hedge funds that bought the common currency and sold sterling in Asian trade, traders said.

Some said it could bounce to above 90 pence if the ECB maintains a hawkish bias after Thursday's rate decision which will be in sharp contrast to the Bank of England's stance.

"The (BOE) MPC members are likely to may have discussed the prospect of QE2 in more detail. Such a discussion would push euro/sterling markedly above 90 pence, but we will have to wait until the minutes released for an indication of these discussions," said Michael Sneyd, strategist at Societe Generale.

Pricing in the short-term interest rate markets suggests the BoE will keep rates chained at 0.5 percent until mid-2012, as the UK economy struggles to deal with weak demand.

Despite the favourable interest rate differentials, the euro could run into some selling on continued sovereign debt worries.

Moody's downgraded Portugal's credit rating to junk late earlier this week and on Thursday cut Portugal bank's government-backed debt.

"I caution that the risks in euro/dollar and euro/sterling today are more heavily skewed towards the downside than to the upside; the number of offers within the market is starting to outweigh the number of bids," said Stephen Gallo, head of market analysis at Schneider Foreign Exchange.

Copyright Reuters, 2011