Sterling has been stuck around $1.27 recently as investors await the outcome of the Conservative party leadership contest to succeed May, who is stepping down following her failure to take Britain out of the European Union.

The currency, which on Monday was headed for its biggest daily decline in more than a month, has taken its cue from a dollar hit by concerns about a U.S. interest rate cut.

Britain's Conservative party ballot begins on Thursday and the nomination of frontrunner Boris Johnson, a prominent eurosceptic, could increase the risk of a no-deal Brexit, which traders say would send the pound plummeting.

"Frontrunner Johnson continues his battle with Brussels... Favour sterling under-performance, which probably means EUR/GBP to 89.4 pence," said ING currency strategist Chris Turner.

The pound fell 0.2% on Monday after data showed Britain's economy contracted sharply in April.. At 0840 GMT it was down 0.4% at $1.2684.

It traded flat against the euro at 89 pence.

On Monday, the dollar staged a recovery as investors dumped the yen and euro. Some analysts said the U.S. currency should rebound as investors realise their assessment of the path for Federal Reserve interest rate cuts was overly dovish.