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Wed 27 Jul 2011 08:49 AM

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Dollar sinks to 3-month low on US debt woes

Markets fret about prospect of US debt default and downgrade; wait to see if Japan will intervene to weaken yen

Dollar sinks to 3-month low on US debt woes
US dollar and euro currency

The dollar sank to a three-month low against a basket of
major currencies on Wednesday as markets fretted about the prospect of a US
debt default and downgrade, while they cautiously waited to see if Japan would
intervene to weaken the yen.

Traders betting on rate differentials intensified their
selling of the greenback following stronger-than-expected Australian data,
adding to the dollar's broad decline and fuelling the Aussie dollar's rally
through key resistance to a 29-year peak at $1.1063 .

Month-end selling by Japanese exporters also pressured the US
currency towards an option barrier around 77.50 yen, dragging it to a
four-month low of 77.78 yen and fuelling speculation that Tokyo may step in to
the market to curb the yen's rise.

"The dollar became even less attractive as, on top of
the US fiscal problems, Australian inflation data reminded investors about the
higher inflationary environment in Asia's fast-growing markets," said a
trader for a Japanese bank who did not want to be identified by name.

The dollar index dipped to a three-month trough at 73.421
and traders said it was likely to keep falling to its post-Lehman crisis low of
72.696 hit in May, after Republican congressional leaders delayed action on a
plan to raise the US government's $14.3 trillion borrowing limit.

While analysts say the government may have enough cash on
hand to pay its bills until the middle of next month, there are still no signs
of panic as markets hold out hope the log jam could still be broken.

"They still believe there will be a positive resolution
reached, but I suspect it's not going to be enough to satisfy the ratings
agencies," said Joseph Capurso, strategist at Commonwealth Bank in Sydney.

Indeed, analysts polled by Reuters expect the United States
will probably lose its top-notch AAA credit rating from at least one major
rating agency, believing the wrangling over the debt ceiling has already
damaged the economy.

The dollar last traded at 77.85 yen, nearing a record low
around 76.25 plumbed in mid-March. Back then, Japanese authorities, along with
their G7 partners, acted to weaken the yen in a rare joint intervention.

"For now, I think we're still looking at more downside
to the dollar/yen, that is likely to continue until the dollar falls towards
historic lows [against the yen]," said Koji Fukaya, director of global
foreign exchange research at Credit Suisse Securities in Tokyo.

"This trend may be reversed once we get a deal on the US
debt, but a come-back above 80 yen will be very difficult. That is, of course,
if we don't have an intervention by the BOJ," he said.

Fukaya added that while he would not be surprised by an
intervention at any time, looking at the currency levels, it is more likely to
happen after a US deal is struck, with the Tokyo authorities trying to
strengthen the impact from a possible relief rally in the dollar.

Dollar/yen below 80 yen is significantly increasing costs
for Japanese exporters, sparking fears that more top Japanese manufacturers,
already battered by the March 11 earthquake, will move production abroad.

Japanese exporters expect an average rate of 82.59 yen this
fiscal year, according to the BOJ June tankan survey, versus the average rate
of about 81.60 yen in April-June.

The Australian currency surged almost a full US cent to
$1.1063 after the government reported key measures of underlying inflation rose
by 0.9 percent in the second quarter, above forecasts calling for a moderate
0.7 percent rise.

The Aussie broke through several key resistance levels,
edging towards the top edge of a major resistance area at 1.1000 to 1.1083.

It broke through psychological resistance at 1.1000, a May 2
high of 1.1012, and the 61.8 retracement of the 1.4900-0.4775 decline at
1.1032. Traders are now eyeing resistance at 1.1083, a wave equality target of
the entire decline from 1.4900. The wave equality target is calculated from the
all time low on the Aussie.

Against the Swiss franc, the dollar held close to a record
low around 0.7997 francs . The euro climbed further above the Ichimoku cloud to
a three-week high of $1.4537. Market players cited stop-loss euro bids at
levels above the overnight high, while offers are seen higher above, in the
$1.4550 to $1.4580 area.

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