February 3, 2014 / 4:58 PM / 4 years ago

Sterling hurt by data, drops 1 percent vs euro

LONDON, Feb 3 (Reuters) - The euro rose against the pound for the first time in five sessions on Monday, gaining a full percentage point after strong factory data contrasted with a weaker-than-expected report from Britain.

After gaining the most of any major currency in the second half of last year, most traders predict the pound will extend gains against the euro in 2014 given expectations UK economic growth will outpace that in the euro zone.

But a flood of money from the developing world back into the euro's debt-laden periphery and safe haven bets like German bonds has given investors pause as to whether the euro's prospects are as bearish as all that.

A very slightly less bullish reading of UK purchasing managers' outlook (PMI) than had been expected added to a sense that markets have priced a lot of good news about the UK economy into sterling and other local markets.

"What we've seen on sterling is slight position adjustment," said Stephen Gallo, strategist with BMO in London.

"We're in a phase where expectations for the economy have maybe got a little too high, so there's been a downgrading of views, a removal of some of the froth from the market."

Monday's numbers on the equivalent PMI surveys in the euro zone and Germany at least matched forecasts. But Gallo said any pickup for the euro was as much about flows out of the developing world as any sense of broader improvement in a still fragile European economy.

"Portfolios are still adjusting to the launch of tapering (of monetary easing) in the U.S.," he said. "You're seeing capital forced out of the emerging space finding a home in the developed markets."

Others said gains in the euro would be used by some traders to make fresh bets against the currency, with slowing inflation in the bloc having increased the chance of policy loosening from the European Central Bank in months ahead.

After a surge on the morning figures, the euro traded almost 1.1 percent higher at 82.89 pence.

Against the dollar, sterling was down 0.7 percent at $1.6327 , its lowest since mid-January.

"The pound made a poor start to trading after this morning's UK data missed expectations," said Nawaz Ali, analyst at Western Union. "The week ahead is packed with more event risk including several interest rate decisions and key U.S. jobs data."

The drop in euro zone inflation has spurred speculation of a cut in ECB policy rates, although a meeting on Thursday on balance is seen as unlikely to deliver one.

"The euro is likely to trade heavy into the meeting and any further easing measures should see euro downside momentum accelerate, particularly against the dollar and the pound," said BNP Paribas said in a morning note.

"We continue to watch euro/sterling for possible shorts."

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