FOREX-Dollar withers to new lows as U.S. yields sag

* Dollar weakens to lows vs yen, Aussie, Swiss franc

* Traders look to U.S. yields for direction in thin market

* Euro zone debt woes could come back to haunt euro

By Hideyuki Sano

TOKYO, Dec 30 (BestGrowthStock) – The dollar weakened broadly on
Thursday, hitting a seven-week low against the yen and a 28-year
low against the Australian currency as traders took falls in U.S.
bond yields as a cue to sell it.

U.S. Treasury prices recovered on Wednesday, pushing yields
sharply lower, after a $29 billion auction of seven-year notes
drew surprisingly strong demand a day after a weak five-year
sale. [ID:nN29284358]

“Some market players may be building up positions for the
next year. As the Federal Reserve is expected to keep printing
dollars, the dollar looks set to cheapen next year,” said Tsutomu
Soma, manager of foreign securities at Okasan Securities.

As the euro, a natural alternative for the dollar, is
smarting from concerns over debt financing of the currency bloc’s
peripheral countries, investors may be turning to other
currencies such as the yen, the Aussie and the Swiss franc, he
said.

While the relationship with bond yields and the value of a
currency is not always straightforward, lower yields can make a
currency less attractive for investors chasing better returns.

The dollar slipped as low as 81.28 yen (JPY=: ), its lowest in
seven weeks and edging closer to a 15-year low of 80.21 yen hit
in November.

As thin trading due to the New Year’s holiday tends to
exaggerate currency moves, market players say there is a risk of
the dollar falling near the November low or even to its postwar
low of 79.75 yen marked in 1995.

Data on U.S. initial jobless claims later in the day and more
importantly U.S. manufacturing data due on Monday could provide
the impetus to push the dollar down, they said.

Keiji Matsumoto, a strategist at Nikko Cordial Securities,
said a rise in the Chinese yuan after China’s rate hike last
Saturday is supporting Asian currencies, including the yen.

The yuan (CNY=CFXS: ) hit a record high against the dollar on
Thursday after the Chinese central bank set the yuan mid-point
(CNY=SAEC: ) versus the dollar at a record high.

“There will be speculation that China may engineer a higher
yuan ahead of Chinese President Hu Jintao’s state visit to the
United States next month,” Matsumoto said. Hu will visit
Washington on Jan. 19. [ID:nTOE6BM01F]

TWO-YEAR YIELDS

Some analysts said the dollar is likely to rise against the
yen eventually as its levels are too low in light of its
historical correlation with the two-year U.S. Treasury yield.

The correlation has broken down this month as the dollar fell
even as the two-year yield rose, but some market players say that
relationship will return next month when the market becomes more
liquid as many market players will come back from holidays.

Osamu Takashima, chief Japan FX strategist at Citibank,
estimates that the current level of two-year U.S. yields
(US2YT=RR: ), around 0.65 percent, points to around 88 yen for
dollar/yen if the historical correlation holds.

The current level is about 3.7 sigma away from that level,
meaning the dollar is at a cheap level relative to yields that
should happen only once in 19 years, Takashima said.

“There is no reason to think that correlation has broken
down. It’s quite reasonable to think that it will return,” he
said.

He added that Japanese life insurers may buy more foreign
bonds without currency hedging.

Some of Japan’s biggest life insurers have said they could
consider buying more foreign bonds without hedging if the dollar
is around 80 yen. [ID:nTOE69K04W]

The euro extended gains to $1.3237 (EUR=: ), rising above
$1.3226, a 38.2 percent retracement of its fall from $1.35 to
$1.3055 earlier this month.

The euro’s stubborn refusal to break below its 200-day moving
average, now at $1.3086, has frustrated bearish investors who
think the euro-zone debt crisis could spread to Spain and
Portugal in early 2011.

On the upside, it could target $1.3275-80, its high on
Tuesday as well as a 50 percent retracement of the fall.

Still, traders say concerns over debt in some euro zone
countries could crop up at any time after many investors and
policymakers come back from Christmas holidays.

Already on Wednesday, Ireland’s opposition Labour Party
threatened to call a vote of no confidence in the deeply
unpopular government if it has not set a date for an election by
the end of January.

The Australian dollar hit a fresh 28-year high of $1.0198
(AUD=D4: ) against the U.S. dollar, though small option barriers at
$1.02 prevented further gains in the Aussie.

Rising commodity prices have boosted the Aussie and
helped investors shrug off fears that a recent Chinese interest
rate hike would slow China’s economy (Read more about the fastest growing economy.) and thus dampen demand for
Australian exports. London Metal Exchange copper hit a record
high. [MET/L]

The Swiss franc, which has attracted funds escaping euro zone
debt, hit a new high record against the dollar of 0.9418 franc.
(CHF=: )
(Additional reporting by Chikako Mogi; Editing by Michael
Watson)

FOREX-Dollar withers to new lows as U.S. yields sag