* Graphic: sterling and gilt yields bit.ly/2dgAXn1
* Graphic: World FX rates in 2017 tmsnrt.rs/2egbfVh
* Graphic: Trade-weighted sterling since Brexit vote tmsnrt.rs/2hwV9Hv (Changes headline, updates prices)
By Patrick Graham and Vikram Subhedar
LONDON, May 26 (Reuters) - Sterling suffered its steepest fall since January on Friday after an opinion poll showed the governing Conservatives’ lead over the Labour opposition down to just 5 percentage points less than two weeks before a parliamentary election.
The pound sank against the euro and by more than 1 percentage point against the dollar to its lowest in a month, more than 2 cents below last week’s six-month highs.
That lifted London’s FTSE share index by half a percent to a record high while other major European markets fell. The multinational-dominated blue-chip index, which tends to rise when the pound falls, was up for a fifth straight week.
The assumption that Prime Minister Theresa May’s Conservatives would win handsomely, strengthening her hand in negotiations on Britain’s departure from the European Union, has driven the pound higher since she called an election for June 8.
But a poll by the YouGov organisation taken after Monday’s bombing in Manchester showed her lead is just a quarter of what some polls showed a month ago and might deliver the slimmest of majorities.
“Sterling is likely to continue to be under pressure now until the election is out of the way, if polling continues to indicate it’s a tighter race,” said Nomura strategist Jordan Rochester.
“For the market the worst outcome is if we have further uncertainty with the chances of a hung parliament.”
By 1630 GMT, the pound had fallen to $1.2785, down 1.2 percent on the day in its biggest one-day tumble since Jan. 18. It fell 1 percent to 87.15 pence per euro.
The fate of the pound remains tied to how the British economy reacts to last year’s shock decision to leave the EU and speculation over how 18 months of Brexit talks with Brussels will pan out.
When May announced the election on April 18, financial markets’ logic was that a big victory would let her face down hard-line Brexiteers in her party to make the compromises needed for a smoother departure.
Labour have promised to turn back the budget austerity that has dominated seven years of Conservative government while struggling to get the economy growing faster or dig Britain out of debts racked up in the 2008 financial crisis.
“If it is a Labour victory, it’s perhaps not as bad for sterling as you’d expect, given the fiscal spending would eventually lead to higher real yields once the initial uncertainty passes,” Nomura’s Rochester said.
YouGov’s survey also showed Monday’s attack, which killed 22 people, may have improved May’s own polling from a low earlier that day, when she appeared rattled as she backtracked on the pledge to make elderly people pay more for care.
Her personal rating improved from minus eight on Monday to plus one in the following days, while Labour leader Jeremy Corbyn’s personal rating slipped from minus 11 - his best position in the campaign - to minus 16, YouGov said.
“YouGov says the swing in the latest poll is probably due to Conservative manifesto commitments, some of which have changed subsequently,” said Adam Cole, head of G10 strategy with RBC in London.
“There will likely be a large number of opinion polls over the weekend, so this picture could change either way in the next few days.” (Additional reporting by Guy Faulconbridge and Kit Rees; Editing by Alison Williams and John Stonestreet)