Dollar drops to one-month low vs euro before key CPI test By Reuters

Written by Kevin Buckland

TOKYO (Reuters) – The dollar fell to a one-month low against the euro on Wednesday amid falling Treasury yields as traders braced for a key U.S. inflation report later in the day that could determine the course of Federal Reserve policy.

However, the yen remained hovering near a two-week low as the yield gap between local bonds and their US counterparts continued to encourage selling of the Japanese currency.

The euro rose 0.03% to $1.0823 in Asian trading hours, and had earlier risen to $1.0828 for the first time since April 10.

The index – which measures the currency against six major rivals, but is heavily skewed towards the euro – fell 0.11% to 104.94, after falling to a week-and-a-half low of 104.92 earlier.

The long-term US Treasury yield fell to 4.4414%, extending its 3-1/2 basis point decline overnight.

Wednesday's report on core consumer prices is expected to show the CPI rose 0.3% month-on-month in April, down from 0.4% growth the previous month, according to a Reuters poll.

“The market will either sink or swim,” Alan Ruskin, a strategist at Deutsche Bank, wrote in a note, noting the “extremely rare” concentration of analysts’ forecast of 0.3%.

He noted that the outlook for the interest rate path is “a little firmer than usual” and it would take more than a modest surprise to the upside or downside to swing markets significantly.

However, in the event of a “significant upside error” of 0.5% or more, “early thoughts about the possibility of a rate hike next will lead to a broad repricing of interest rates and a significant rise in the US dollar against all currencies.” .

Federal Reserve Chairman Jerome Powell gave an upbeat assessment on Tuesday about the state of the US economy, with expectations for continued above-trend growth and confidence in lower inflation that, although eroded by recent data, remains largely intact.

Higher-than-expected consumer prices in the first quarter of the year were the driving force for a sharp repricing of the pace of Fed rate cuts, with those bets now reduced to about 45 basis points of cuts this year.

Although the dollar weakened broadly overnight against the majority of its counterparts, it continued to rise against the yen. The dollar fell 0.12 percent to 156.245 yen on Wednesday, but rose to 156.80 overnight.

In contrast to their US counterparts, Japanese long-term yields stand at just 0.955%, even as the Bank of Japan's rhetoric has turned more hawkish in recent days and the odds of another interest rate hike in June are increasing.

The dollar's rise to a 34-year high of 160,245 yen on April 29 led to two rounds of heavy yen buying, which traders and analysts suspect is the work of the Bank of Japan and Japan's Ministry of Finance.

“The Bank of Japan will hope that tonight’s US CPI release is in line with expectations to avoid the need for a difficult conversation tomorrow about when to start a third round of intervention — bearing in mind that the past two rounds have yet to turn the tide on the yen’s fortunes,” wrote Tony Sycamore, an analyst. At IG, in a note to the client.

Elsewhere, the yuan rebounded from a two-week low against the dollar, as a report on a potential plan to ease the country's housing glut boosted sentiment, outpacing US President Joe Biden's decision to impose sharp tariff hikes on a range of Chinese goods.

The dollar fell 0.24% to 7.2232 yuan in external trading, after reaching its highest levels since May 1 at 7.2460 overnight.

Countercurrencies also benefited from Chinese optimism, with the Australian dollar rising 0.32% to US$0.6648 after earlier reaching US$0.6651 for the first time since March 8.

The New Zealand dollar rose 0.37 percent to $0.6062, and earlier touched $0.6064 for the first time since April 10.