Sterling up 1 pct on M&A talk, options market busy as election looms

(Adds details, updates prices)

* Shell (LSE: RDSB.L - news) agrees to buy BG, Vivendi (Swiss: VIV.SW - news) eyes Sky (Other OTC: BSYBF - news)

* Speculators see deals firming demand for pound

* Corporates look to insure against election volatility

By John Geddie

LONDON, April 8 (Reuters) - Sterling rose on Wednesday on talk that foreign bids for two major British firms would bolster demand for the pound, while activity in the options market showed investors were busy hedging against sharp swings before a May general election.

Royal Dutch Shell (Xetra: R6C1.DE - news) 's deal to buy BG Group (LSE: BG.L - news) for 47 billion pounds and French media conglomerate Vivendi's possible purchase of pay-TV group Sky drew bets that they would need sterling to fund the acquisitions.

Sky has a market value of 17.6 billion pounds but could cost Vivendi as much as 28 billion including debt, three sources said. Vivendi and Sky declined to comment.

The pound was up 1.1 percent against the dollar at $1.4972 , with the greenback also pegged by comments from a top Federal Reserve official who said a rising U.S. dollar was restraining growth.

The minutes of the Federal Reserve's March meeting will be released later in the day and traders will scrutinise them for any concerns from policymakers about a strong dollar.

Sterling was up 0.65 percent against the single currency at 72.55 pence per euro.

"It's more the news and the rumour that is driving things higher this morning rather than the buying itself," said Credit Agricole's European head of foreign exchange strategy, Adam Myers.

"In the BG case for example, a lot of it is share transfer rather than cash, and of the cash that is going to be transferred to shareholders, the lead manager on that M&A takeover deal will already have done the fx."

The news of the acquisitions, coupled with recent strong economic data, partly offset nagging concerns ahead of next month's election, the most unpredictable in a generation.

It is unclear whether either of Britain's two major parties, David Cameron's Conservatives and Ed Miliband's Labour, will be able to form a durable government after the vote on May 7, with marginal parties such as the SNP and the UK Independence Party seen doing well in the polls.

Adding to the uncertainty, Scottish nationalist leader Nicola Sturgeon raised the prospect on Tuesday of another independence referendum after 2016 that could break apart the United Kingdom.

Options to hedge against sharp sterling swings were in demand. The two-month implied volatility for sterling/dollar was 12 percent, suggesting uncertainty from the May election will spill over into June. One-month implied volatility was at 10.75 percent with the option expiring on election day.

"Ahead of the UK elections, there is palpable fear among corporates. It's the months of uncertainty that they are fearing and looking to hedge against," said Foenix Partners managing director Richard de Meo. His firm helps mid- and large-cap UK corporates manage their currency exposure. (Additional reporting by Anirban Nag; Editing by Andrew Roche)