Dollar posts biggest drop in a week as rally fades

By Saikat Chatterjee

LONDON (Reuters) - The dollar tumbled a quarter of a percent against a basket of its peers on Tuesday, its biggest drop in a week, as expectations grew that the dollar’s recent rally on the back of escalating trade tensions may be coming to an end.

A shop assistant counts piles of British Pound Sterling banknotes at an Apple store in London, Britain November 18, 2017. REUTERS/Russell Boyce
Since mid-April, the dollar has gained more than 6 percent against a basket of its peers and an index of emerging market rivals as the U.S. central bank raised interest rates and trade tensions prompted investors to buy the greenback.

But with markets expecting another three rate hikes until mid-2019, investors are wary of pushing the greenback higher with long dollar positions consolidating at a one-year high.

“Unless there is some data that can sufficiently alter the trajectory of U.S. rate hikes until end of next year, we think the dollar’s upward march has stalled for now,” said Jeremy Stretch, head of G10 FX strategy at CIBC Capital Markets in London.

Of the three rate hikes penciled in by markets, investors expect roughly two of them through the remainder of this year after two rate hikes so far in 2018.

Monthly jobs data last week signaled an economy well in expansion mode and inflation data due later this week is likely to show price pressures remain firm. A Reuters poll predicts a 3 percent print in July inflation.

But more economists believe the U.S. economy is exhibiting signs of a late cycle expansion mode pointing to the narrowing gap between short-end U.S. interest rates and long term bond yields as an indicator.

High yielding currencies such as the Australian dollar were the biggest beneficiary of the weakness in the greenback.

The Aussie rallied more than half a percent to a one-week high at $0.7441 against the greenback after the central bank kept policy settings on hold and the Chinese stock market rallied strongly towards the close, boosting risk appetite.

The euro climbed a quarter of a percent higher at 1.1583 on Tuesday after falling to $1.1530 on Monday, its lowest since June 28 after monthly German industrial orders missed forecasts.

However, some analysts see trade tensions supporting the dollar as the United States economy is better placed to handle protectionism than emerging markets, and as tariffs may narrow the U.S. trade deficit.

“There is still a lot of uncertainty on the tariffs. We don’t know exactly how much will be implemented and how bad it can get,” said Shinichiro Kadota, senior FX and rates strategist at Barclays in Tokyo.

Reporting by Saikat Chatterjee; Editing by Matthew Mpoke Bigg