The dollar advanced against the euro and yen on Wednesday, to remain within striking distance of two-year highs, but pared some gains as investors grew cautious ahead of Thursday's US trade report.
Economists expect the US trade deficit to have widened to a record $61 billion in September, according to a Reuters poll. However, a larger-than-expected deficit poses the risk of halting the dollar's rally.
"If you get a number well above consensus, you could see a big sell-off in the dollar. There's no doubt that is the big risk," said Peter Frank, senior foreign exchange strategist with ABN-Amro in Chicago.
Massive US trade and budget deficits were the prime mover in the dollar's three-year decline from 2002 to the end of 2004. But speculative investors have recently built up sizeable dollar positions based on expectations of higher US interest rates relative to other major currencies.
A trade shortfall in the $63 billion to $65 billion range could trigger a partial unwinding of those positions.
The euro slipped 0.1 percent from late Tuesday to $1.1762, some 56 points from a two-year low around $1.1706 reached on Tuesday, according to Reuters data.
Against the yen, the dollar was up 0.3 percent at 117.56 yen after briefly dipping below 117.00 yen. The euro was up 0.1 percent against the yen at 138.32 yen.
The dollar has risen nearly 6 percent against the yen since August.
Traders have lightened up on yen negative positions recently, especially as data from the International Monetary Market showed speculative bets against the yen had been the largest in six-and-a-half years late last month.
"As these positions are unwound or at least trimmed to more manageable levels, the yen has a little bit more upside," said Thomas Molloy, a trader with Bank Hapoalim.
Late in the New York session, St. Louis Federal Reserve President William Poole the high and rising US current account deficit, of which trade is the largest component, is not sustainable but its adjustment need not become disorderly provided the US government and central bank pursue sound policies.
The euro has been under pressure since August, falling 5 percent against the broadly rallying dollar, which has benefited from expectations of higher US interest rates relative to other major economies.
Widespread riots in France have added to the euro's woes in recent weeks.