The dollar steadied on Tuesday as a rise in US stocks overnight eased some fears about deteriorating credit markets as market players awaited US data for clues on the Federal Reserve policy outlook. Concerns linger that a further slump in credit and equity markets may prompt investors to continue to cut risky positions like carry trades - borrowing low-yielding currencies such as the yen to buy higher-yielding assets.
The yen held off a 3-month high against the dollar and a three-month high against the euro as a renewed taste for risk spurred some players to resume carry trades, particularly to buy the Australian and New Zealand dollars.
A drop in Tokyo shares despite a rebound on Wall Street a day earlier made some players wary of taking on risky positions. The Nikkei stock average slipped 0.2 percent, bucking higher equity markets elsewhere in Asia.
"A full revival of the yen carry trade is unlikely when worries over the subprime mortgage problems seem to stick around for a while," said Shuichi Kanehira, a senior trader for Mizuho Corporate Bank. Kanehira said he expected the dollar to shuffle between 118 yen and 120 yen this week.
Moves in the US stock and credit markets will continue to dictate market direction, with traders saying that the dollar's reprieve may prove to be short-lived if Wall Street stocks resume their slide later in the session. The dollar was down 0.2 percent at 118.80 yen but off a 3-1/2-month low of 118.02 yen struck last week on electronic trading platform EBS.
The US dollar struggled to extend gains as some Japanese investors took profits from its rise and banks sold after absorbing month-end demand from Japanese importers, said a director in forex trading at a US securities firm.
The euro dipped 0.1 percent to 162.73 yen up sharply from a three-month low of 160.64 yen hit in early trade on EBS on Monday. The single European currency was flat at $1.3697
The Australian dollar rose 0.4 percent to $0.8590 recovering from a one-month low hit on Monday as signs of accelerating inflation have boosted expectations for higher rates next month. A raft of key US data is due out later in the session, including personal income and the core personal consumption expenditure (PCE) price index, a closely watched inflation gauge.