LONDON (Reuters) - Sterling fell on Thursday, retreating from initial gains made against the dollar after the central bank held interest rates, as political and economic concerns kept the UK currency under selling pressure.

The pound hit the day's high against the dollar after the Bank of England kept interest rates at 0.5 percent and held back on quantitative easing, but reversed those gains as traders sold into the rally, underlining demand to punish the pound.

"Sentiment is lukewarm on sterling at the moment, with the potential to turn more negative depending on how the economic and political landscape turn out, and particularly how fiscal issues develop," said Phyllis Papadavid, currency strategist at Societe Generale in London.

Signs the UK economy is recovering from recession only at a snail's pace, and uncertainty about whether a looming general election will leave Britain without a majority government have battered sterling in past months.

By 4:18 p.m., it was down 0.4 percent on the day at $1.5045, pulling back from the day's high of $1.5136. Selling in the pound accelerated in late London trade following an options expiry at $1.51.

It dropped to a 10-month low of $1.4781 earlier this week as UK opinion polls showed the opposition Conservatives' lead was shrinking. This increased the risk of a hung parliament after a general election due by June.

The pound rose against the euro, which slipped 0.3 percent to 90.40 pence as the single currency was dragged down by its losses against the dollar.

Traders brushed off data on the UK housing sector. The Halifax house price data showed a fall of 1.5 percent in February, versus an expected rise of 0.3 percent.

MORE WEAKNESS?

The Bank kept its asset-buying programme on hold while it assesses the impact of the massive stimulus it has already injected into the economy.

The Bank has indicated it is prepared to restart its quantitative easing programme -- halted at 200 billion pounds last month -- if the economy deteriorates. Such a move is seen as negative for the pound.

Many in the market believe a hung parliament would also keep selling pressure on sterling as it may potentially complicate efforts to bring down the UK's spiralling deficit.

Political concerns and jitters about the UK's big budget deficit have pushed sterling down 10 percent against the dollar since December.

Analysts said any sterling rallies were proving to be selling opportunities, viewing the rebound from Monday's 10-month lows against the greenback as technical rather than anything fundamental.

"The recovery we have seen in sterling since Monday is purely technical. The overall scenario in the UK remains unchanged, with political uncertainty in particular a cause of concern," said Michael Hewson at CMC Markets.

Technical analysts at Barclays Capital said another breach of trendline support at $1.5020 would set up sterling's likely return to $1.4850.

(Additional reporting by Neal Armstrong, editing by Nigel Stephenson)

© Thomson Reuters 2010 All rights reserved