GBP/EUR volatility elevatedGBP appears to be a 'buy on dips'Market anxiety over Russia-Ukraine to continueCould prompt ECB caution

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The Pound to Euro exchange rate keeps in touch with the significant 1.20 level during the midweek session amidst heightened market focus and anxiety surrounding the Russia-Ukraine crisis and concerns it might prompt the European Central Bank to adopt a more cautious approach to rate hikes.

The Euro recovered notably against the Pound, Dollar and other major currencies on Tuesday as investors digested the implications of Russia's latest moves on the Donbas region of eastern Ukraine, judging that perhaps the worst might have passed.

The Pound-Euro exchange rate initially fell in response to a renewed bid for the single currency that came alongside a sharp rebound in global asset prices amidst a recovery in sentiment.

The moves suggest that within the context of Ukraine-Russia geopolitical tensions the Pound is acting as a safe haven relative to the Euro.

"The British pound has reclaimed $1.36 against the US dollar and €1.20 against the euro," says analyst George Vessey of Western Union Business Solutions, "both levels of resistance that have proven tough to hold above recently."

The Pound has tended to rally alongside the established safe-havens of the Yen and Franc during times of heightened Ukraine-centric tensions and has fallen alongside these currencies when tensions ease.

But geopolitical and financial market strategists warn market volatility relating to the conflict will remain elevated, suggesting ongoing support for Pound-Euro.

“Russian troops have not massed along the Ukrainian border in order to hold a cake sale. However this unfolds, tensions and uncertainties are likely to run hot for some time to come," says Steve Clayton, Hargreaves Lansdown Select Fund Manager.

Above: GBP/EUR four-hour chart showing February trade.

Reference rates at publication:

GBP to EUR: 1.2008High street bank rates (indicative): 1.1688 - 1.1772Payment specialist rates (indicative): 1.1900- 1.1948Find out more about specialist rates and service, hereSet up an exchange rate alert, hereThe Pound-Euro rate's Tuesday weakness proved short-lived and it entered the mid-week session back towards 1.20 suggesting a buy-on-dip mentality remains entrenched.

"Prevailing risk-off sentiment should gain the upper hand soon once the next development in the Russia-Ukraine crisis arrives," says Chris Beauchamp, chief market analyst at IG.

If correct, this could keep the Euro under pressure.

U.S. President Joe Biden said Russian President Vladimir Putin has started to invade Ukraine and is preparing to go much further into the country, potentially bringing “untold suffering to millions of people” in an all-out war.

Biden delivered the assessment as the UK, EU and U.S. and other 'non Western' nations - such as Japan - have unveiled an initial set of sanctions that includes the sanctioning of Russian banks and high-net-worth-individuals.

The U.S. also banned Russia from raising debt on U.S. markets.

But analysts are in wide agreement the sanctions are relatively mild at this stage as Western leaders warn more might come in the event that Russian aggression extends.

"Investors will remains on tenterhooks awaiting further geopolitical developments," says Jane Foley, Senior FX Strategist at Rabobank.

Perhaps the most significant Western response was the decision by German chancellor Olaf Scholz to suspend the approval process for the Nordstream 2 gas pipeline from Russia to Germany, following weeks of pressure to do so.

"This will have an economic impact on both Russia and Europe, with the threat of higher for longer energy prices in Europe having implications for ECB policy and the EUR," says Foley.

The pipeline came to symbolise Germany’s increased reliance on Russia for energy, compromising a broader Western response to Russian aggression in Eastern Europe.

Foley says the rise in tensions could give reason to the European Central Bank to caution against rushing into a rate hike, a development that could potentially undermine the Euro's recovery potential.

"Given the ongoing geopolitical risks, signs that the ECB will remain cautious on policy tightening and expectations that the Fed will be hiking rates in just a few weeks’ time, we see scope for EUR/USD to edge towards 1.11 during H1 before turning higher later in the year," says Foley.

The Euro rallied in early Europe after the ECB expressed concern about rising inflation and verified market expectations for a 2022 rate hike.

The Eurozone's exit from a negative interest rate policy was widely cited as offering a potential sea-change in how the Euro is valued, prompting foreign exchange analysts to raise their forecasts for the single currency.

But any sign the ECB will continue a cautious approach could prompt further weakness.

A decline in EUR/USD could aid a decline in EUR/GBP in the event that GBP/USD remains steady, or at least falls at a slower pace than EUR/USD does.