Sterling recovered from a one-year trough against a basket of currencies on Monday, as investors started the week feeling a bit more optimistic about the health of the UK economy and financial sector.
The pound had sold off aggressively in recent sessions after news that UK mortgage lender Northern Rock had fallen victim to the credit market squeeze sparked by defaults on US subprime housing loans fanned worries about a wider fallout on Britain's dominant financial sector and on consumer confidence.
This, coupled with signs of a slowdown in the UK housing market, convinced investors that UK interest rates have peaked and many are now forecasting a cut in coming months.
Nonetheless, UK data has held up reasonably well. Queues of savers outside Northern Rock branches have dispersed since the government guaranteed all deposits and money markets seem to be stabilising with London interbank (Libor) offered rates for three-month sterling deposits fixing at a 6-week low on Monday.
All this, together with the sharpness of sterling's sell-off has helped the currency recover some lost ground on Monday, though analysts said fresh losses could be round the corner. "I don't think investors are as bearish sterling as they were at the height of the Northern Rock issues but I don't think they've particularly changed their mind," said Paul Robinson, currency strategist at Barclays Capital.
By 1358 GMT, sterling was up 0.15 percent at $2.0224. It stood at 102.2 on the Bank of England's trade-weighed index, recovering from last week's one-year low of 101.5. The euro shed 0.2 percent to 69.65 pence after hitting a 1-1/2 year peak of 70.20 pence on Friday, but still on track for its biggest monthly gain in percentage terms in 4-1/2 years.