Sterling drops below $1.42 as rally runs out of steam

LONDON, March 7 (Reuters) - Sterling retreated from its highest level against the dollar in nearly two weeks on Monday, as a rally that saw the pound post its best week since late 2009 run out of steam.

The pound had gained 2.6 percent last week as investors and speculators cut unfavourable bets made after the formal launch, just over two weeks ago, of Britain's referendum campaign over whether to remain in the European Union.

Sterling shed 0.5 percent to trade at $1.4155, having risen to hit $1.4249 on Friday, its highest since Feb 22 and a far cry from the 7-year low of $1.3836 struck on Feb 29.

Its gains against the dollar accelerated on Friday after a monthly jobs report showed that while the labour market in the United States was robust, wage growth was tardy. This supported views that the Federal Reserve was in no hurry to hike interest rates.

"The short covering rally in sterling/dollar has probably run its course," said a London-based spot trader. "Further gains in the pound look tough given all the worries about "Brexit".

A vote on whether Britain wants to stay in the European Union will held on June 23. The latest YouGov (LSE: YOU.L - news) polls show those wanting to stay in the union are gaining ground while bookmakers are expecting a one-in-three chance of Britain exiting the European Union. http://bit.ly/1nqFbNG.

Still, investors worry a "Brexit" is likely to drag down growth and push back UK rate hike expectations, would also threaten the huge foreign investment flows Britain needs to balance its current account deficit, one of the biggest in the developed world at around 4 percent of output.

"An event as politically huge as an EU referendum simply can't be ignored from an investor point of view, and a scheduled speech from BoE Governor Mark Carney later this week where he might comment on the upcoming vote could also encourage some profit-taking," said Jameel Ahmad, chief market analyst at FXTM.

Sterling was flat against the euro at 77.35 pence per euro, having gained 1.9 percent last week as the single currency came under pressure on expectations that the European Central Bank is likely to ease policy aggressively this week to boost falling prices and growth. (Reporting by Anirban Nag; Editing by Toby Chopra)