LONDON (Reuters) - The dollar slid to a fresh record low against the euro and a multi-decade low against a basket of currencies on Friday, pressured by the growing view weak U.S. economic and financial market indicators will force another cut in interest rates.
The yen rallied broadly as continued concerns over the fallout from the credit crunch and sharp declines in Asian stocks cooled investors' appetite for risk, prompting them to unwind the carry trades where they had borrowed low yielding currencies to fund the purchase of higher yield assets.
As traders braced for a meeting of Group of Seven finance ministers and central bankers in Washington later on Friday, the broad financial market and economic environment was one of nervousness. Oil hit a new record high of $90 a barrel overnight, gold hit a 28-year high of $770 an ounce the Nikkei share average fell 1.7 percent and European bourses also opened lower.
At the centre of the FX storm was the dollar, under heavy pressure on the view the Federal Reserve will cut rates at the end of this month in response to persistently soft economic data and weak earnings from major U.S. financial institutions.
"The big story here is U.S. dollar weakness ... and we expect that to continue post-G7," said Laura Ambroseno, currency strategist at Morgan Stanley in London.
"We're starting to see the downshift in growth spread out -- it's not the U.S. specifically -- but the focus is still on the U.S.," Ambroseno said, adding she sees potential for "substantial" U.S. rate cuts in the months ahead.
At 3:35 a.m. EDT the euro was flat on the day at $1.4290, having hit a lifetime high of $1.4319, according to Reuters data, earlier in the Asian session.
The dollar index, a measure of the dollar's value against six major currencies, was also flat on the day but earlier in Asia hit 77.406, its lowest ever since its inception over 30 years ago after the Bretton Woods exchange rate agreement broke down.
FEW G7 SURPRISES SEEN
A fall in U.S. housing starts to 14-year lows, soft regional manufacturing data, a steep rise in the number of weekly jobless claims and a 32 percent fall in quarterly earnings from Bank of America (BAC.N: Quote, Profile, Research) this week all helped lift the implied chances of a Fed rate cut on October 31 to around 70 percent.
If the dollar was the main loser from the shift in rate expectations -- U.S./euro zone yield differentials are now at their narrowest in over three years -- the low-yielding yen was the biggest beneficiary from the rising risk aversion.
The dollar fell 0.3 percent to 115.15 yen, having hit a three-week low of 114.85 yen, according to Reuters data.
The euro fell 0.3 percent to 164.60 yen. The New Zealand dollar dropped 1.1 percent at one point versus the yen, while the Australian dollar fell 0.8 percent.
The high-yielding New Zealand and Aussie dollars are on course this week to post their heaviest weekly losses against the yen since the financial market turmoil exploded two months ago.
Implied volatility on yen currency options, which measures the extent to which investors expect a currency to move over a given timeframe, jumped on Friday to levels not seen in a month.
In addition to heightened risk aversion, caution before the meeting of G7 finance ministers and central bankers in Washington loomed large.
Even so, few analysts expect the G7 to change its view that FX rates are best set in open markets, excess volatility is bad for growth and that China and others should loosen their FX regimes.
"What the G7 might ultimately agree will be just the need to keep pressure on China to speed up the currency reform process, but explicit blame for euro strength or dollar weakness is extremely unlikely to appear in the final statement," Unicredit analysts wrote in a research note.
Reuters journalists are subject to the Reuters Editorial Handbook which requires fair presentation and disclosure of relevant interests.
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