LONDON Sterling dipped against the euro on Tuesday, with the shared currency gaining after a stronger-than-expected German sentiment survey spurred some optimism among investors.
The pound rose against the dollar however, with some investors speculating the Federal Reserve could signal more aggressive monetary easing at its latest policy meeting that ends on Wednesday.
The German ZEW survey of sentiment in the euro's zone largest economy rose sharply in December to enter positive territory for the first time since May.
That helped push the euro up 0.3 percent against the pound to a session high of 80.77 pence. It recovered from a near three-week low of 80.35 pence hit on Monday after investors were unsettled by Italian prime minister Mario Monti's surprise decision to resign early.
Some strategists said the pound could be vulnerable to more selling on concerns about weakness in the UK economy.
"Euro/sterling has seen a move on the back of the ZEW, while looking at cable (sterling/dollar) around $1.61, it still seems a little elevated," said Jeremy Stretch, head of FX strategy at CIBC World Markets.
"With the risk we could see a further trigger of fragility in labour market data tomorrow, it seems in the short term any rallies could be worth fading."
A Reuters forecast shows the UK unemployment rate, released on Wednesday, is expected to be unchanged at 7.8 percent. Any unexpected rise could knock sterling.
Concerns about the UK economy have been increasing since finance minister George Osborne downgraded growth forecasts and said the country will miss debt-cutting goals in his mid-year budget statement last week, raising the possibility the country will lose its prized AAA credit rating.
Sterling was up 0.2 percent on the day at $1.6115, with technical charts showing support around the 55- and 50-day moving averages at $1.6036 and $1.6023 respectively.
Weaker-than-expected U.S. small business sentiment index and dragged slightly on the dollar, said Marc Ostwald, FX and rates strategist at Monument Securities.
Separate data also showed the U.S. trade deficit widened in October, putting more pressure on the dollar.
In the short-term some strategists said the pound could track a rise in the euro if the Federal Reserve pursues more aggressive policy easing. Monetary easing tends to weaken the dollar broadly by increasing its supply.
But in the longer-term the pound looked fragile against both the euro and dollar.
Sterling has gained from being seen as a safe-haven alternative to the euro this year, but as concerns of a euro zone break-up have receded sterling's appeal has also diminished, some strategists said.
"I would expect sterling to come under pressure on a domestic perspective, the fact that it is not the euro is not going to be good enough," said Monument's Ostwald, forecasting the euro would rise to 85 pence next year.
Analysts said a speech from Bank of England governor Mervyn King in New York on Monday, in which he warned that too many countries were trying to weaken their currencies, was unlikely to impact the value of sterling.
But the speech did highlight the BoE's concern that the UK will struggle to boost exports while the pound remains relatively strong.
Trade-weighted sterling was last at 83.8, within reach of the peak of 84.7 hit in September. A rise above that level would take the index to its highest since November 2008.
(Additional reporting by Nia Williams; Editing by Hugh Lawson)