Dollar slides toward worst week in more than a year as longs lose faith

© Reuters. FILE PHOTO: A U.S. Dollar banknote is seen in this illustration taken May 26, 2020. REUTERS/Dado Ruvic/Illustration

By Tom Westbrook

SYDNEY (Reuters) - The dollar headed for its largest weekly fall in more than a year on Friday as investors trimmed long positions and deemed, for now, that several U.S. rate hikes this year are fully priced in.

In a week where data showed U.S. inflation at its hottest since the early 1980s, selling has forced the greenback through key support against the euro and yen in particular, and traders seem content to lighten their bets until a clearer trend emerges.

The dollar index is down about 1.14% for the week, on course for its largest weekly percentage fall since December 2020 and set to halt a rally that has lasted about six months. The index was last down about 0.20% at 94.654.

The euro is up more than 1% for the week so far, and has punched out of a range it held since late November, hitting the highest since Nov. 11 at $1.1483. It doesn't face strong chart resistance until $1.1525.

The dollar has dropped 1.53% against the yen over the week, its worst showing since June 2020, and pushed as low as 113.64 for the first time since Dec. 21.

The safe-haven yen has benefited from a slide in global stocks, while Reuters also reported exclusively that the Bank of Japan is deliberating how it can start telegraphing an eventual rate hike.

The dollar's doldrums have come while U.S. interest rate futures have all but locked in four hikes this year. But longer-end yields have fallen slightly on hawkish comments from Federal Reserve officials about reducing the bank's balance sheet. [US/]

"Investors appear to be signalling that ending quantitative easing, hiking rates four times and commencing quantitative tightening all in the space of nine months is so aggressive that it will limit the scope for hikes further out," said Derek Halpenny, head of global markets research at MUFG.

"It has in fact reinforced the belief that peak Fed funds will be below 2%," Halpenny said in a note to clients.

"What can change this? We will need to see data on the economy that convinces the market of stronger growth. That could see thinking on the terminal fed funds rate shift higher. That would be the catalyst for renewed dollar strength."

The Antipodean currencies have also been roused from their ranges and will have traders looking closely at labour and inflation data in both countries this month for anything that might prompt further shifts in central bank rhetoric. [AUD/]

The New Zealand dollar is up 1.46% for the week so far and is above its 50-day moving average at $0.6861. The Aussie briefly broke above stubborn resistance around $0.7276 this week, but retreated to around that level on Friday.

"Further evidence of strength in the labour market will trigger expectations ... for a potential positive shift in Reserve Bank of Australia rhetoric which will underpin the outlook for the AUD," said Rabobank FX strategist Jane Foley.

"We expect AUD/USD to push higher to $0.74 in H2 2022."

Sterling has been forging ahead, too, defying a political crisis threatening Prime Minister Boris Johnson's position on confidence that Britain's economy can withstand a wave of COVID-19 infections and that the Bank of England could hike rates next month.

The pound traded above its 200-day moving average on Thursday and is heading for a fourth consecutive weekly gain of more than 0.5%. It last bought $1.3733. [GBP/]

In Asia on Friday, the Bank of Korea raised its benchmark interest rate by 25 basis points to 1.25%, as expected, and the South Korean won looked to post a weekly rise of about 1.3%.