LONDON: Sterling recovered from 20-month lows on Wednesday as traders positioned for Prime Minister Theresa May to survive an attempt to oust her.
May's Conservative party colleagues voted in a no-confidence motion triggered by hardline eurosceptics angry about the agreement she struck for withdrawing from the European Union in March. Results are due at 2100 GMT.
The prime minister has struck a defiant tone, warning rebels within her party that they risked delaying or even stopping Britain's departure from the EU.
She needs a simple majority - from 159 of 317 Conservative lawmakers - to remain leader and secured indications of support from nearly 200.
"It's the size of the victory and the nature of the victory (that matters). If she squeaks through, then potentially that wouldn't be wonderful. It'll be very different if she gets 230 votes," said Andrew Milligan, head of global strategy at Aberdeen Standard Investments.
The pound tanked overnight after May aborted a planned parliamentary vote on her plan on Monday. Then colleagues gathered enough support to trigger the no-confidence vote in her leadership.
Should she win by a large margin, analysts think May can isolate opponents in her party who seek a total break from the EU - providing some relief, likely short-lived, for the pound.
But if she loses, or wins by a small margin, May's campaign for her much-criticised Brexit withdrawal agreement would be on the rocks, less than four months before Brexit is due to take effect on March 29.
"We don't expect anyone will want to take responsibility for a hard Brexit and we think the worst-case scenario can be avoided," said Giuseppe Sersale, a Milan-based fund manager at Anthilia Capital.
As scores of colleagues pledged support for May, the pound extended gains to $1.2671, up 1.5 percent, before stabilising around $1.2630. The currency was headed for its biggest one-day gain in six weeks.
Against the euro, sterling rose nearly a percent to a session high of 89.71 pence.
LIQUIDITY CONCERNS
With the results of the vote due well after London, the world's biggest FX hub, has closed for the day, some currency traders are concerned thin liquidity - the availability of buyers and sellers - might exacerbate market moves.
Investors and corporations have shied away from trading sterling in recent months because of heightened political uncertainty and volatility. But short-term bets by hedge funds and other speculators had kept liquidity relatively healthy, a senior trader at a European bank said.
Volumes through that bank's desk on Wednesday were double an average day.
With the result due in late New York trading hours and before Asian markets open, the danger, the trader said, was "if she loses and loses by a big margin".
Price swings in the pound have exceeded some high-stakes emerging markets in 2018.
Even if she stays in office, a range of outcomes remains possible, from a second referendum to a no-deal or a delayed Brexit.
May still needs to seek a parliamentary mandate for her deal, probably before Jan. 21.
She is meeting EU leaders this week to try to get her withdrawal agreement tweaked to persuade colleagues angry that, in their view, it would in its current form leave Britain worse off overall.