By Ritvik Carvalho
LONDON (Reuters) - Sterling dipped against the dollar on Tuesday as global stock markets sank led by a heavy sell-off in Chinese shares, which sapped risk sentiment and drove a bid for dollars ahead of a U.S. Federal Reserve policy meeting.
The pound has been particularly sensitive to risk sentiment in recent weeks and has correlated well with the performance of global stock markets. Receding COVID-19 cases in Britain have also helped the pound steady above $1.37 against the greenback.
Data on Monday showed new COVID-19 cases in Britain had fallen for five consecutive days.
On Tuesday, sterling was 0.3% lower on the day at $1.3778 and a touch lower to the euro at 85.44 pence.
"Sterling's move lower this morning looks to have been driven by the generally rather nervous and risk-averse tone that is dominating the markets this morning, stemming again from the ongoing carnage in Chinese tech stocks," said Michael Brown, senior market analyst at Caxton FX.
"This is seeing risk trades take a bit of a beating everywhere, with high-beta FX, including the pound, which is no exception."
Besides the two-day Fed meeting beginning later on Tuesday, investors will also look to the Bank of England meeting next week for future direction.
BoE interest-rate setter Gertjan Vlieghe said at an event on Monday the central bank should not scale back stimulus possibly until well into 2022, because a recent uptick in inflation is likely to be temporary and COVID-19 remains a threat to the economy.
ING strategists said in a note to clients that euro-sterling appears to have closed "a meaningful part" of its "prior misvaluation" and is now close to a short-term fair value of 85 pence, based on their financial fair value model.
"We expect euro-sterling to remain firmly in the 85-86 pence range today. The cleaner speculative GBP positioning (i.e. GBP being no longer heavily overbought) also points to near-term stability in the currency."
Speculators went net short on the pound for the first time since December 2020 in the week up to last Tuesday, CFTC data showed on Friday.