Dollar hits 18-month high against euro

The dollar climbed against major European currencies, hitting a fresh 18-month high against the euro, with the prospect of higher US interest rates continuing to attract yield-hungry investors.

In the absence of first-tier US economic data, traders followed the bearish euro trend of the past three sessions. Last week the euro made its worst performance against the dollar in two months.

"Surely it does not look like this euro has any upside momentum whatsoever. There is inherent pressure on this euro," said Manfred Wolf, director of foreign exchange at HVB Group.

By 1537 GMT, the euro had fallen as low as $1.1776, the lowest level since May 2004. However, the next 20 points lower in the euro could be a slow grind, with the $1.1759 level, below which would be a two-year low, marking firm support, traders said.

Even slightly below there, a trader cited talk of large triggers on barrier options worth €3 billion at $1.1750 that would likely be defended.

The dollar was around 117.72 yen, down 0.4 per cent from Friday on profit taking after climbing as high as 118.38 yen, its highest since August 2003.

The euro was buying around 138.97 yen, down about 0.6 per cent.

The dollar backed away fairly quickly from its highs against the yen but until the Federal Reserve signals otherwise and the cost of borrowing in Europe and Japan starts rising, prospects for even higher US rates will keep buoying the dollar, traders and analysts said.

"The US rate argument is unequivocal. Rates are going to keep on going up for the time being," said Ian Gunner, head of foreign exchange research at Mellon Bank.

In another example of this rate differential, the spread between two-year US Treasury debt and same maturity eurozone paper widened by about 20 basis points in the past two months.

For 10-year debt, the spread has narrowed slightly in the last few sessions.

But from September to now, the spread of Treasuries over euro zone equivalents has widened by about 18 basis points.

The euro was also still smarting after European Central Bank President Jean-Claude Trichet gave little indication after a policy meeting last week that a change in eurozone rates was in the offing.

Mr Trichet, speaking in Switzerland on Monday, said central banks must stand ready to raise interest rates to head off a rise in inflationary expectations in a solidly growing global economy.

The ECB kept rates at two per cent, as expected. But some in the market were looking for clues that the central bank was close to its first hike in over two years after a run of upbeat economic data and warnings from ECB officials about inflation risks.

The Fed boosted the cost of borrowing last week for the 12th straight meeting, taking its key rate to four per cent, and suggested it would keep raising at a measured pace.

"The momentum is pretty strong - the market has turned bullish and this is largely due to their inflation fears and on expectations of higher US interest rates," said Mitul Kotecha, head of global foreign exchange research at Calyon.

Later this week the market will focus on the September US trade balance and import and export price data for October.