Dollar bounces off 5-week low ahead of U.S. data, Fed meeting
* Fed may bolster dovish forward guidance
* Dollar/yen falls as Nikkei slides
* Event risk eyed: ECB, BoE meetings; major data
* Volatility prices indicate big currency price moves may be ahead
The dollar rebounded from a five-week low against a basket of major currencies on Monday as investors positioned ahead of a key U.S. economic data and global central bank policy meetings this week.
The greenback, which investors have been selling over the last three weeks, slumped earlier in the global session amid expectations that the Federal Reserve will reiterate its commitment to keep U.S. interest rates low for some time.
"The dollar recovered from oversold levels and what's happening is that the market is flattening its positions before this whole deluge of data, the Fed meeting, and other central bank events later this week," said Omer Esiner, chief market analyst at Commonwealth Foreign Exchange in Washington.
The dollar index, which tracks the greenback against a basket of six currencies, fell as low as 81.499—the lowest since June 20— before recovering to trade up 0.1 percent at 81.704.
The euro slipped 0.1 percent to last trade at $1.3262, erasing earlier gains as it failed to pierce $1.33, a closely-watched level since it was a trigger for options contracts.
The Fed's statement on Wednesday after the U.S. central bank's two-day policy meeting will be scrutinized for fresh clues about the timetable for winding down its bond-buying program, running at $85 billion per month. Wednesday will also usher in an advanced reading of second-quarter U.S. gross domestic product.
The U.S. currency had rallied in May and June when Fed Chairman Ben Bernanke first indicated that the U.S. central bank may start reducing the monetary stimulus for the economy.
Less stimulus could eventually produce a rise in interest rates, potentially making the dollar more attractive for investors. Dollar gains, however, started fading in recent weeks following a string of soft U.S. economic data and comments from Bernanke that the Fed will not cut back on its bond purchases as long as growth remains sluggish and inflation is not a threat.
Besides the Fed, both the Bank of England and the European Central Bank are holding policy meetings this week. The BOE and ECB are expected to repeat or refine their respective versions of forward guidance that policy will stay loose for an extended period. This could see bids for the dollar return as the Fed is still expected to be the first major central bank to exit ultra-loose monetary policy.
A sharp jump in foreign exchange volatility prices, meanwhile, indicates that major currency pairs may see big moves ahead, according to David Rodriguez, quantitative strategist at DailyFX in New York.
"It's particularly worth noting that short-term forex market volatility prices have surged near their highest levels of the year, while longer-dated volatility prices have remained stable," he said. "We often see such huge divergences near key market turning points, and indeed, we're on the lookout for price extremes in the U.S. dollar and Japanese yen, in particular."
On Friday, the U.S. monthly payrolls report will be released, with forecasts for 185,000 jobs being added in July and a dip in the jobless rate to 7.5 percent. A strong report would support the case for the Fed to start rolling back its stimulus in September and boost the dollar.
"We'll tread lightly in the week ahead—limiting exposure ahead of top-tier economic event risk," DailyFX's Rodriguez said. "If this is truly the start of a dollar reversal, there may be ample opportunity to latch onto dollar strength for the foreseeable future."
Against the yen, the dollar fell 0.3 percent to 97.92 yen in volatile trading after earlier dropping to 97.61 yen, its lowest since June 27. The dollar hit the day's peak of 98.33 yen in the North American session following a smaller-than-expected drop in U.S. pending home sales for June.
Boris Schlossberg, managing director of FX strategy at BK Asset Management in New York, said the yen benefited from safe-haven flows in the wake of a 3 percent slide in the Nikkei index of Japanese stocks.
Investors were also concerned about Japan's fiscal reforms. Prime Minister Shinzo "Abe ... has to walk a fine line between assuring investors that proper fiscal reforms will take place to mitigate the country's massive US$5 trillion debt, while at the same time he must pursue an aggressive expansionist policy in order to continue stimulating the economy," Schlossberg said.