LONDON: Sterling jumped to a one-week high on Thursday after Britain and the European union agreed a draft text setting out their post-Brexit ties that could be endorsed by EU leaders at a summit this weekend.
The pound rose as much as one percent versus the dollar after the text was sent to EU governments stating that both parties would have "a trading relationship on goods that is as close as possible".
Britain is due to leave the EU on March 29, 2019 and diplomats are trying to ensure that both a legally-binding text governing Britain's withdrawal and the separate declaration of intent on future relations will be ready for EU leaders to rubber-stamp at a summit on Sunday.
"The pound is pushing higher on short covering," said Neil Jones, head of hedge fund FX sales at Mizuho in London.
"The latest Brexit headlines are encouraging demand and there is probably some further upside [for the currency] right now," he added.
Prime Minister Theresa May will return to Brussels on Saturday where all EU leaders are due to convene to approve the outline of their future relationship.
Brexit negotiations and political uncertainty in Britain remain the key drivers for the pound, and many analysts are cautious about its prospects.
"It won't take long before we refocus on the challenge facing the Prime Minister in getting House of Commons support for her Brexit deal," said Societe Generale strategist Kit Juckes.
The pound was up 0.8 percent at $1.2873 at 1650 GMT, its highest since a rally last week. It also strengthened 0.6 percent against the euro to 88.60 pence
Britain's FTSE 100 shares index hit a session low as sterling rallied and British gilt yields rose to their highest since Nov 14 at 0.77 pct.
May's spokesman said later on Thursday she believed she could win a critical vote in parliament on her Brexit deal and would focus her efforts on persuading rebel members of her own party of the merits of the agreement.
"The market is sceptical of the platitudes and reassurances from May that the deal is within reach, with perhaps only a final, ratified agreement able to fully stabilise the UK currency," said John Goldie, an FX dealer at Argentex.
"The same old issues remain: fishing, Gibraltar and Ireland. These issues have not been confronted head-on," he said.
Growing domestic opposition to May's draft Brexit arrangement has hit sterling hard in recent weeks, pulling it down nearly 3 percent from a Nov. 7 high of $1.3176.
The draft text secures no improvements for Britain to proposed future trading relations in financial services, a major export sector for the UK.