LONDON: Sterling hovered near a two-week high against the euro on Monday, as investors expected the ECB would have to ease policy if leaders failed to make significant progress in tackling the euro debt crisis at a summit this week.
But gains were limited on speculation of more easing too in the UK.
The safe-haven dollar along with the Japanese yen advanced as investors across asset classes cut exposure to riskier currencies and assets on worries about slowing global growth and the festering euro crisis.
Peripheral euro zone bond yields are at elevated levels, piling pressure on the European Central Bank to intervene and bring down borrowing costs. European leaders will meet later this week, after the leaders of Germany, France, Italy and Spain agreed on a 130 billion euro package to revive growth.
The ECB's decision to ease collateral rules at the end of last week triggered some speculation the central bank may announce a fresh cash injection programme, similar to the ones it conducted in December and February. Those long term refinancing operations have driven the euro lower.
Given that the euro zone debt woes have not shown any signs of improvement, the results from the forthcoming EU summit might be disappointing. Analysts said the risk of disappointment is likely to exert more downward pressure on the euro.
"The risks facing the euro are greater than sterling. So I think sterling may outperform the euro, but it may underperfom the dollar," Jane Foley, senior currency strategist at Rabobank, said.
"I would continue to be a seller on rallies. My forecast for one to three month euro against sterling is 80 pence," she added.
The euro was down 0.4 percent against sterling at 80.27 pence, not far from this month's low of 80.115 pence struck on June 12. Further support for the euro was at around 79.895 pence, the low struck on May 31.
Against the dollar, sterling was down 0.17 percent at $1.5565. Apart from the dollar's broad gains due to safe-haven inflows, sterling was also hurt by talk of more quantitative easing by the Bank of England.
MORE QE
While the Bank of England is likely to opt for outright purchases of government debt under its quantitative easing programme, the Federal Reserve last week extended 'Operation Twist'. But it held back from more quantitative easing or QE3.
Paul Robson, a senior currency strategist at RBS said given waning risk appetite and the relative expansion of the BoE balance sheet compared to the Fed's, he recommended investors to establish short sterling and long US dollar positions, targeting a move to $1.5050, with stops above $1.6075.
"A break of $1.5450/75 seems set to lead to bigger declines.
A more dramatic decline will most likely need a break of the 2011 range lows around 1.520," he added. Quantitative easing can be seen as negative for the currency as it increases the supply of pounds in the system.
Speculation that the BoE will vote to expand the 325 billion pound asset purchase programme to boost growth at their July meeting has gathered pace after dovish minutes of the last policy meet released last week.
The minutes showed a very close 5-4 vote against resuming the bank's asset purchase programme this month and Governor Mervyn King was in favour.
BoE policymaker David Miles said in an interview with the Financial Times a substantial amount of QE was needed to kickstart the "stalled" British economy.
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