The dollar steadied against the yen on Wednesday, keeping most of the previous day's gains thanks to its interest rate advantage, though many investors stood on the sidelines until the US currency's overall trend becomes clearer.
The dollar rose over 1 percent against the yen in the previous session as investors dumped the Japanese currency on a view that Japan will keep interest rates near zero well into next year.
"The market is still focusing on interest rate differentials," said Mitsuru Sahara, a senior trader at UFJ Bank.
The Federal Reserve raised its funds rate for the 13th straight time to 4.25 percent this month and is expected to bump up rates again in January.
The US currency has risen around 15 percent against the yen and 14 percent versus the euro this year, helped by the Fed's repeated rate hikes that have burnished the allure of dollar-based deposits and assets.
But investors may become reluctant to buy the dollar if US long-term interest rates keep falling, fanning worries that the US economy is slowing, Sahara said.
The yield on benchmark 10-year US Treasuries fell below that of two-year notes on Tuesday, inverting the yield curve for the first time since December 2000.
Inversions in the past have typically signalled a slowing economy, and some traders said the curve could portend a decrease in capital flows to the United States.
Others said such worries were not warranted, noting that inversions do not always herald an economic slowdown and low US long-term rates could stem from other factors such as soaring savings world-wide.
The dollar was fetching 117.25 yen, dipping from around 117.45 yen in late New York trade.
Demand from Japanese importers was seen underpinning the dollar.
But many traders were reluctant to buy the US currency aggressively after having seen it fall over 4 percent against the yen in just three days in mid-December as speculators sold the dollar before year-end holidays to book gains.
"People will be cautious for a while," said a trader at a European bank. "But looking ahead, I think funds will inevitably flow to currencies with higher yields."
The euro was buying 139.05 yen, up from around 138.90 yen, with buying by Japanese trust funds supporting the European currency, traders said.
The euro was buying $1.1860, up from around $1.1825.
The market shrugged off data showing industrial output in Japan rose a less-than-expected 1.4 percent in November.
Forecasts released with the data pointed to solid growth in the months ahead, suggesting the economy was still in an uptrend.
Finance Ministry data showed that Japanese investors bought a net 176.8 billion yen in foreign bonds last week, taking the total for the year to around 15.8 trillion yen.
That outweighs a stampede by foreign investors into Japanese stocks and highlights one reason why the yen has stayed so weak despite the Nikkei's 40 percent rally this year.
Economists forecast the index to show a rise to 101.8 from 98.9 in November.
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