Sterling fell to its weakest in four weeks against a buoyant euro on Thursday, with rate differentials moving in favour of the single currency as German Bund yields surged to their highest since September. The spike overshadowed Thursday's monetary policy committee meeting of the Bank of England, at which it is widely expected to keep interest rates at record lows and its asset purchase programme unchanged. Investors do not expect the bank to start raising rates until well into next year.
European Central Bank head Mario Draghi said on Wednesday he was willing to look through bond market volatility, in contrast to ECB Executive Board member Benoit Coeure who said in May that the speed of the sell-off was worrying. The yield gap between 10-year Bunds and British government bonds narrowed to its tightest in four months on Thursday, making the euro more attractive to investors chasing higher yields.
The euro rose 0.4 percent to 73.87 pence, extending a 2.2 percent rise since the start of Tuesday. Against the dollar, sterling was up 0.5 percent at $1.5409. "Short euro/long sterling has been a very popular trade along with short euro/dollar positions. These are being unwound as Bund yields continue to move higher," said Yujiro Goto, currency analyst at Nomura.
Sterling was hit on Wednesday after a survey of the British services sector in May came in sharply below forecasts, pointing to relatively subdued economic growth in the second quarter. "There is still some optimism that the BoE will be able to raise UK rates at the beginning of next year, but I personally see this as very ambitious when you take into account the BoE's strict inflation views," said Jameel Ahmad, chief market analyst at FXTM. "Will sterling/dollar be able to recover the sharp 500 pip losses it has witness in the past fortnight? It looks very unlikely ...with sentiment towards the UK economy weakening."