LONDON (Reuters) - The dollar dropped on Friday, giving up some of its overnight gains and on track for a second consecutive weekly dip thanks to renewed downward pressure on government bond yields.
Sterling bounced on Friday after suffering its biggest daily drop overnight so far this year in the London trading session after Prime Minister Theresa May bought a bit more time to resolve when and how Britain exits from the European Union.
Despite the rise, currency derivative markets signalled a growing caution the outlook for the British currency with one-month risk reversals on the pound versus the euro and the dollar plunging to multi-month highs.
Risk reversals, a gauge of puts to calls, and an indicator of how bearish or bullish are on the outlook of the currency, indicate that short term negative bets on the pound are piling up rapidly despite the broader calm in the spot markets.
One-month risk reversals on the pound versus the euro plunged to its lowest levels since mid-2017. Against the dollar, bearish bets grew to their highest levels since September 2017, according to Refinitiv data.
European Union leaders on Thursday gave May two weeks' reprieve, until April 12, before Britain could crash out of the bloc if lawmakers next week reject her Brexit plan for a third time.
Broader cash markets painted a broader picture of calm despite the underlying nervousness building up in the derivative markets. The pound was up by a third of a percent at $1.3154 and 0.2 percent at 86.57 pence.
"That means the FX market clearly now sees a higher likelihood of sterling collapsing, even if the spot rate is not yet reflecting an increased no-deal risk," Commerzbank strategists said in a note.
Elsewhere, the dollar slipped 0.2 percent against a basket of six rival currencies to 96.314.
The index had risen three-quarters of a percent in the previous session after falling to a more than six-week low on Wednesday after the Federal Reserve said it had abandoned plans to raise interest rates this year.
(Reporting by Saikat Chatterjee; Additional reporting by Daniel Leussink in TOKYO; Editing by Angus MacSwan)
