Sterling struggles for direction as race to succeed PM May heats up

LONDON (Reuters) - The pound wilted against a rallying euro on Thursday after the European Central Bank disappointed dovish investors, though analysts said the British currency looked broadly directionless until the contest to replace the prime minister was concluded.

FILE PHOTO: Wads of British Pound Sterling banknotes are stacked in piles at the GSA Austria (Money Service Austria) company's headquarters in Vienna July 22, 2013. REUTERS/Leonhard Foeger

The euro shot higher after the ECB meeting, pushing down the pound in late London trading. Versus the dollar, sterling managed to gain but that was because of weakness in the greenback rather than any pound-specific triggers.

Investors are reluctant to take positions on the pound as they await the outcome of the Conservative party leadership contest to succeed Prime Minister Theresa May, who is stepping down.

A eurosceptic winner could increase the risk of a no-deal Brexit, which traders say would send the pound plummeting.

Michael Gove, one of the leading contenders to replace May, said he would delay Brexit rather than rush into a no-deal exit in case it triggers an election that could propel Labour leader Jeremy Corbyn to power.

Traders are also mostly downplaying monetary policy signals, believing that Bank of England Governor Mark Carney will not raise interest rates until the form of Britain’s European Union exit is clear.

“The economic indicators coming out of the UK were mediocre. They didn’t move the pound. And there’s not much (the BoE governor) can do,” CMC Markets analyst David Madden said.

The outcome of the leadership contest would be a likely catalyst for the UK currency, he added.

The pound, little changed before the ECB meeting, dropped 0.4% to 88.80 pence per euro as the single currency rallied. It remains near a five-month low of 89.02 pence hit on Tuesday.

Against the dollar the pound rose 0.3% to $1.2721, having recovered from a five-month low of $1.2560 hit on Friday as the dollar has weakened.

For a graphic on Sterling vs the euro, click

Sterling would slide against both the dollar and euro if Britain left the EU without a deal, according to strategists in a Reuters poll.

Median forecasts said that sterling would trade between $1.15 and $1.20 within a month of a no-deal Brexit. The median trading range forecast for the pound versus the euro was 91-96 pence in a no-deal scenario.

Kit Juckes, analyst at Societe Generale, said a no-deal Brexit would lift the euro-sterling rate above 91 pence.

“A rise to 0.93 (93 pence) is possible, a move to parity very unlikely unless by some strange magic the euro rallies while sterling falls,” he said, adding that a smooth Brexit could take euro-sterling to a range of 82-88 pence.

“A second (Brexit) referendum would provide a knee-jerk positive reaction were it announced, but the outcome is uncertain.”

With fewer traders betting big on the pound, expectations for price swings - measured by implied volatility - remain low.

Reporting by Tommy Wilkes; Editing by Raissa Kasolowsky, David Goodman and Jan Harvey