* Drop in Treasury yields weighs on U.S. currency
* Investors ready for next week's Fed meeting
* 1-week implied vols for euro/dollar rise
* Longer-term bullish dollar bets building
(Updates prices, adds detail, adds comment, byline)
By Steven C. Johnson
NEW YORK, Oct 28 (Reuters) - The dollar fell on Thursday in
tandem with Treasury yields as investors once again reassessed
how much money the Federal Reserve was likely to commit to a
second round of monetary stimulus when it meets next week.
The Fed has telegraphed its intent to boost growth by
pumping more money into the economy through direct government
bond purchases, and few if any investors doubt its resolve.
But investors are far from certain about how much money the
Fed will spend. A New York Federal Reserve survey of dealers
and investors included scenarios of up to $1 trillion, a figure
larger than recent estimates. For details, see
[].
That snapped a two-day dollar rally, pushing the euro to
the upper end of its recent broad range of about $1.3650-$1.40
and pushing U.S. yields down. The more money the U.S. central
bank effectively prints, the more it will push down Treasury
yields and reduce the appeal of dollar-based assets.
"The issue is whether the market believes the Fed will
deliver significant quantitative easing over a definitive time
line," said Peter Frank, a currency strategist at Societe
Generale in London. "If they do, the dollar will weaken."
The euro rose 1.2 percent to $1.3931 <EUR=>, well off a
$1.3759 session low, while the 10-year Treasury note
<US10YT=RR> was up 19/32 in price to yield 2.66 percent, down
from 2.72 percent late on Wednesday.
The dollar fell 0.8 percent to 81.08 yen <JPY=>, with small
stop loss cited by traders in the 80.90 area with bids at 80.60
and 80.40. There are also solid barriers at 80.00.
Traders shrugged off a Bank of Japan decision to keep
interest rates at zero while holding off on new policy
initiatives. Analysts were still on alert for any dollar move
below 80.41 yen, a 15-year low, for fear Japanese authorities
could repeat last month's intervention to stem yen strength.
DOLLAR RALLY POSSIBLE
Wall Street analysts expect the Federal Reserve to buy $80
billion to $100 billion worth of assets per month under a new
program widely expected to be unveiled on Wednesday, according
to a Reuters poll. []
Estimates for how much the Fed will eventually spend varied
from $250 billion to $2 trillion. The market has been scaling
back expectations as the event draws nearer.
Lingering uncertainty about how the Fed will announce more
QE has increased market volatility, with one-week implied
volatility for euro/dollar <EURSWO=> jumping to 15.3 percent on
Thursday from 12.6 percent at the start of the week.
The dollar has shed 7 percent against major currencies
since September <.DXY>, and some say it's due for a rally once
the Fed reveals its easing plans.
"We remain inclined to trade the dollar tactically from the
long side into the Fed meeting based on the idea that
quantitative easing is over-priced," said Nomura currency
strategist Jens Nordvig.
The euro's move to $1.3890 looks like a good opportunity to
reestablish dollar longs, he said.
A buyer of the Powershares Bullish Dollar Fund, an exchange
traded fund, bought 55,400 March 23 calls at 61 cents each and
105,500 March 24 calls at 34 cents. Both positions are opening
buys and appear to reflect expectations for a dollar rally
through March 2011.
The euro may also be vulnerable as countries such as
Greece, Portugal and Ireland continue to struggle with strained
public finances. Investors shook off news on Thursday of a
breakdown in Portuguese budget talks, but some said worries
about the banking sector and the region's debt problems could
check the euro's gains.
The European Central Bank's quarterly Bank Lending Survey
said more banks expect to tighten their credit standards for
corporate loans in the fourth quarter.
The news could check hawkish ECB intentions to scale back
emergency stimulus measures, said Tom Levinson, a forex
strategist at ING. "This serves as a warning on what is going
on in the real economy. It's less of a positive for euro but
the real dominant force is still the U.S. story."
(Additional reporting by Nick Olivari in New York, Doris
Frankel in Chicago and Naomi Tajitsu in London; Editing by
Kenneth Barry)
