The dollar tumbled on Thursday, posting its biggest one-day drop against the euro in over three years in technically-driven trading, as investors who had earlier sold the euro zone currency got squeezed after it failed to go below a key level.
Currency investors were forced to buy euros to cut their losses as the unit rallied, traders said. Investors who short, or bet against, a currency typically place an order to buy on the other side of the trade to minimise losses in the event the currency moves unexpectedly the other way.
The dollar index, currently trading at 88.68, also had its largest one-day fall in more than four years, according to Reuters data.
"It's partly technicals. The market was pretty heavily long dollar and the reason the dollar had risen in the past was because of rising rate hike expectations," said Richard Franulovich, senior currency strategist at WestPac Banking Corp in New York.
Long positions are effectively bets a currency will appreciate.
"But the rate increase has been pretty much priced in and therefore the hike's impact as a source of dollar upside has waned," he added. "Also, when markets couldn't crack $1.19 in euro/dollar, that generated short-covering which became a lot fiercer."
In late New York trade, the euro traded at $1.2179, up 1.7 percent from late Wednesday, topping a three-month low earlier this week around $1.1900.
The dollar fell 1.7 percent against the Swiss franc to 1.2704 francs, while sterling rose 0.9 percent to $1.7783.
Some currency analysts also attributed the dollar's fall to investors positioning for a poor US non-farm payrolls number for September given the impact of Hurricanes Katrina and Rita. Wall Street economists forecast September jobs to fall by 143,000, according to a Reuters poll.
Friday's employment number follows a report on Thursday which showed a rise in the number of Americans making initial jobless claims to 390,000 in the latest week ended October 1, from an upwardly revised 369,000 the previous week.
Against the yen, the dollar was down 0.5 percent at 113.23 yen, although gains in the Japanese currency were kept in check by a sharp fall in Tokyo stock prices overnight.
Earlier, the European Central Bank and Bank of England kept rates unchanged at 2 percent and 4.5 percent respectively, eliciting little reaction from their currencies. But hawkish comments from ECB President Jean-Claude Trichet after the rate decision spurred some euro buying, analysts said.
Analysts said with much of the expectation for dollar-boosting higher interest rates already priced into the currency after a series of hawkish comments from Federal Reserve speakers this week, investors are shifting their focus back to the prospects for US economic growth.
Financial markets widely expect the Fed to continue its 15-month-long campaign to incrementally raise short-term US interest rates to head off inflation pressures in the economy.