The euro eased back after hitting a 4-1/2-month high against the dollar on Tuesday but expectations of a eurozone interest rate hike next month could limit any downside for the single currency. Sterling climbed to a 14-month high against the dollar, also on expectations of an interest rate hike in coming months after stronger-than-expected UK inflation data.
The yen traded in a tight range, hovering around 81 per dollar. In the near term, analysts said the 80-area could serve as a floor, as markets were wary of further intervention by the Group of Seven nations to counter yen strength after Japan's earthquake, tsunami and resulting nuclear crisis. The euro climbed as high as $1.4249 on trading platform EBS but gave up gains after running into options-related barriers at about $1.4250. Further resistance is seen around $1.4280, the November high.
With the European Central Bank widely expected to raise interest rates next month, traders said the euro may make another run at those levels. The currency also found support after eurozone officials agreed on Monday on the set-up of a permanent eurozone bailout fund.
"We continue to expect euro to test up to the November high of 1.4282 as we believe that recent developments have all been negative for the US dollar and positive for the euro," said Camilla Sutton, senior currency strategist at Scotia Capital in Toronto.
The euro last traded at 1.4199, down 0.2 percent on the day. Technical analysts at Citigroup said they expect a test of the $1.48-$1.51 area in the near term. The euro hit around $1.5144 back in November 2009. German two-year bond yields have risen about 30 basis points over the past week to 1.75 percent, widening the gap over US Treasury yields to about 110 basis points. The euro zone's permanent bailout fund, the European Stability Mechanism, will be backed by paid-in and callable capital and offer loans more cheaply than the temporary facility does now, a eurozone source said. The comprehensive package is to be approved by EU leaders on March 24-25.
The Group of Seven countries may have sold a total of around 530 billion yen ($6.5 billion) last Friday as they intervened in forex markets to weaken the Japanese currency, data from the Bank of Japan showed on Tuesday. The amount is far smaller than market talk indicating they could have sold around 2 trillion yen, though some analysts said the figure was not a surprise.
"Our interpretation is that the signalling effect from 'co-ordinated intervention' did most of the job for the BoJ in the short run. Nevertheless, we judge that the BoJ is likely to be ready for more persistent operations, should they be needed," said Jens Nordvig, global head of G10 FX strategy at Nomura in New York. Ihab Salib, senior portfolio manager and head of international fixed-income at Federated Investors in Pittsburgh, said in the medium-term, authorities may try to drive the dollar/yen to levels around 85 and 86.
"I don't have a high degree of comfort that they'll be able to change the longer-term trend of a stronger yen. But in the short- to medium-term, I think they will succeed," Salib said. Federated Investors manages about $350 billion in assets. Salib oversees more than $3 billion.
Japan again warned it would act to keep the yen in check, but traders saw no action in the FX market on Tuesday from Japanese or other G7 authorities. That resolve could be tested if dollar/yen looks like it will break back below 80 yen. The dollar last traded at 80.90 yen, down 0.2 percent on the day and near the low end of the day's narrow range of 80.85-81.29 yen on EBS.
Sterling added 0.5 percent at $1.6379 after British inflation last month surged to a 28-month high of 4.4 percent, reviving speculation the Bank of England will not wait much longer to raise interest rates. The dollar index, a measure of the greenback's value against a basket of six major currencies, fell to 75.249 - the lowest since early December 2009.
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