Dollar Hits 26-Year Low Vs. Pound

The dollar fell to a 26-year low against the British pound Monday ahead of an expected rate hike by the Bank of England later this week.

The Bank of England and European Central Bank meet separately Thursday to discuss interest rates. The BOE is expected to raise its key rate a quarter-point from 5.5 percent, while the ECB is expected tighten monetary policy later this year.

The U.S. Federal Reserve, meanwhile, has left its key rate unchanged at 5.25 percent for the past year.

Higher interest rates, a weapon against inflation, can bolster a currency by giving better returns on fixed-income investments.

The dollar has been especially weak for so many months, it's difficult to put a finger on a single catalyst for Monday's losses, said David Solin, a partner at Foreign Exchange Analytics in Essex, Conn.

"What really triggered this sudden realization that the dollar should be sold off?" he said.

Along with this week's BOE and ECB meetings, traders eyed firmer U.S. bond yields and thin markets ahead of the July 4 holiday, Solin said.

The British pound shook off terrorism fears Monday following last week's two failed car bombings in London and the attempted weekend attack on the airport in Glasgow, Scotland.

The euro climbed after German industry group VDMA reported that new orders for the country's machinery industry rose by 18 percent in May from a year earlier. Germany is the euro zone's largest economy.

In the U.S., a report on June manufacturing activity indicated easing inflation.

The Institute for Supply Management's manufacturing index came in at 56.0, slightly beating expectations and showing stronger expansion over May's reading of 55.0. The report also showed a drop in its prices paid index, suggesting inflation pressure eased last month.

The euro is in sight of a record high just above $1.3680 hit in April. The dollar fell against the yen .

Sterling hit a 26-year high versus the dollar ahead of the Bank of England's policy meeting Thursday, when the central bank is expected to raise rates by a quarter percentage point to 5.75 percent - half a percentage point higher than U.S. borrowing costs.

Reflecting the dollar's waning yield advantage, the 2-year Treasury noted now yields about 40 basis points more than euro-zone debt of the same maturity, around the narrowest gap in two and a half years.

"The dollar's chief vulnerability appears to be a continued loss of yield support as U.S. yields edge lower relative to the rest of the G10," strategists at UBS AG wrote in a note to clients on Monday.

The U.S. unit touched as low as 78.35 U.S. cents against the New Zealand dollar, its lowest since the central bank allowed the kiwi to trade freely in March 1985.

Trade is expected to be thin this week due to the July 4 holiday in the United States, which comes ahead of Friday's closely watched U.S. nonfarm payrolls report.

Security alerts in Britain may also be keeping some investors on the sidelines. Police arrested two more suspects Monday in a hunt for members of a suspected al Qaeda cell that rammed a fuel-packed Jeep into a Scottish airport and left two car bombs in London.

"Trading volumes are lower and in light of what happened in the U.K. during the weekend most investors will just avoid going long on dollar until this week ends without any incident," said Salvaggio.