* Sterling hit by morning sell-off
* Euro off lows after EU elections
* Draghi reinforces expectations of ECB easing next week
* Large batch of U.S. data may set tone
By Patrick Graham
LONDON, May 27 (Reuters) - Sterling sank as much as 0.4 percent against the dollar and euro on Tuesday after weak lending data added to concerns over a European election win for the anti-EU UKIP party.
Dealers said the pound, little traded during a UK and U.S. holiday on Monday, was also hurt by Pfizer's formal confirmation on Monday that it was abandoning its attempt to buy AstraZeneca for nearly 70 billion pounds ($118 billion)
"There is a mix of factors behind this morning's move," said one senior London-based bank dealer. "Certainly the failure of the AstraZeneca deal is one element. We have also probably taken a knock from the election result."
UKIP, which wants Britain to leave the European Union, took almost a third of the vote in the EU polls. That prompted the party's leader to target holding the balance of power after next year's UK parliamentary election, which polls suggest might produce no outright winner.
Sterling has been one of the hottest picks among major currencies since the second half of last year, buoyed by expectations an accelerating economy would prompt the Bank of England to raise interest rates next year.
Some BoE officials have sought to temper such expectations in the past month and data on Tuesday showed Britain's banks last month approved the lowest number of mortgages since August last year.
Sterling later recovered ground, however, to trade just 0.1 percent weaker on the day at $1.6833 and 81.08 pence per euro.
The dollar fell 0.1 percent against a basket of currencies , extending weakness since the end of last week after another retreat in U.S. bond yields.
A stronger dollar was one of many investment houses' major bets at the start of this year but the U.S. economy has so far failed to deliver the comprehensive pickup that would convince the Federal Reserve it needs to raise dollar returns next year.
U.S. two-year bond yields have fallen around 10 basis points in the past month despite a blip higher at the end of last week, and are less than half their British equivalents.
"The dollar continues to struggle, and you can see that in the U.S. rate curve and rate differentials which haven't moved in the dollar's favour," said Stephen Gallo, European head of FX strategy with BMO in London.
"If the data, starting with durables today, does not show the beginning of a more encouraging bounce back from Q1, then the dollar is going to continue to struggle," Gallo added.
A raft of U.S. confidence indicators as well as orders for durable goods are due out on Tuesday, starting at 1230 GMT.
The dollar lost 0.16 percent against the yen to stand at 101.80 in early European trade. It fell almost 0.3 percent against the Australian dollar and 0.2 percent against sterling.
The euro held on to most of Monday's gains, largely the result of relief that the EU elections did not deliver a knockout blow to any of the bloc's more fragile, debt-ridden governments.
Traders said a squeeze in short euro positions had given the euro some support overnight as it managed to stay above major technical markers such as its 200-day average against the dollar and 100-day average against the yen.
"It's a sad reflection of the lack of volatility in FX markets that we now report 30 point moves as being newsworthy," said Sean Keane, a director of Triple T Consulting and formerly a markets trader at Credit Suisse.
Prospects of policy action from the European Central Bank at its June 5 meeting have weighed on the common currency in the past few weeks and comments from ECB chief Mario Draghi on Monday reinforced those expectations.
Reuters reported earlier this month that the ECB is preparing a package of policy options for its June meeting. It includes cuts in all its interest rates as well as targeted measures aimed at boosting lending to smaller firms. (Editing by John Stonestreet)