The euro fell from a 2-1/2-month high against the dollar on Wednesday as tensions in Egypt escalated, though the eurozone single currency's uptrend stayed intact given signs of rising inflation in that area. The euro climbed above $1.3860 overnight, its strongest level since early November, before retreating after a German government official said Berlin opposed allowing a eurozone rescue fund to buy troubled countries' debt.
Traders said winter storms in the Midwest and Northeast were keeping trading ranks thin, while clashes in Egypt between supporters and opponents of President Hosni Mubarak injected some uncertainty into markets. The US dollar, which usually benefits from safe-haven buying, was only modestly bid, and traders said the euro remains on track to test $1.40. An upside target before that was seen at $1.3950, around the 200-week moving average.
"Unless you see a big contagion effect in the rest of the Middle East, the euro is going to continue a little bit further up," said Fabian Eliasson, vice president of currency sales at Mizuho Corporate Bank in New York. The euro last fell 0.2 percent to $1.3804, after having risen as high as $1.3862 on trading platform EBS. Support lies at $1.3786, the November 22 high.
"There's a bit of a flare-up in Egypt and some of our barometers suggest a hint of renewed risk aversion, but I don't think it will dissuade investment in high-yield assets," said BNY Mellon strategist Michael Woolfolk. "And given how far the euro has come, you would expect to see some profit-taking." Sources say the eurozone is giving serious consideration to letting its rescue fund buy debt from distressed countries, though the German position was unclear.
The European Central Bank meets on Thursday and investors will scrutinise comments from ECB President Jean-Claude Trichet for clues about the bank's stance on inflation. The euro has gained more than 3 percent since the ECB's last meeting on January 13, when Trichet's comments on short-term inflation pressures fuelled expectations the European Central Bank will lift interest rates sooner than the Federal Reserve.
"We expect the ECB to maintain its stance set in January and continue to emphasise the need to monitor the short-term upward pressure on overall inflation," strategists at BofA Merrill Lynch Global Research in New York. Dollar gains against major currencies were slight despite data showing US private employers beat expectations and added 187,000 jobs last month.
Traders said a downward revision to December's data tempered enthusiasm and failed to alter investors' conviction that US interest rates will remain low indefinitely. The dollar was last up 0.3 percent at 81.56 yen and up 0.5 percent at 0.9398 Swiss francs. While US data has improved - a survey this week showed manufacturing grew in January at its fastest pace since 2004 - the Fed remains committed to stimulative monetary policy. An official said another round of bond purchases could even be discussed if economic recovery starts to flag.
ING analysts argue the two-year euro swap rate at which corporates hedge interest rate risk has limited room to extend gains. It has pushed above 2 percent, 100 basis points over the policy rate, which ING says is "extreme." "The euro may have come about as far as it can on the ECB story alone, and will need an alternative catalyst to punch it through resistance in the $1.39-1.40 area," ING analyst Chris Turner said in a note.
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