The U.S. dollar on Monday neared its lowest in seven months against other major currencies, after data last week suggested the Federal Reserve could slow the pace of its rate hikes, while China re-opening its borders boosted riskier currencies.
China's offshore yuan neared its highest in five months against the U.S. dollar, while the Australian and New Zealand dollars - generally regarded as more liquid proxies for the Chinese currency - rallied sharply.
The dollar posted its biggest quarterly loss in 12 years in the last three months of 2022, driven mainly by investors' belief that the Fed won't raise rates beyond 5%, from its current range of 4.25%-4.50%, as inflation and growth cool.
Two separate reports on Friday painted a picture of an economy that is growing and adding jobs, but where overall activity is tilting into recession territory, prompting traders to sell the dollar against a range of currencies.
A separate report from the Institute for Supply Management showed activity in the service sector contracted for the first time in 2-1/2 years in December. The ISM's non-manufacturing PMI came in at 49.6, its weakest since 2009, excluding the collapse during the pandemic in 2020.
"Where that number came in - marginally below the 50 breakeven level - is just about as negative as you can get for the dollar," RBC head of currency strategy Adam Cole said.
"If it were another 5 percentage points lower, then that would be obviously deep recession territory, which, historically, has generally been associated with a stronger dollar against everything other than the yen and the Swiss franc," he said.
But, with consumer inflation data due later this week, it's the outlook for price pressures that is still front and centre for investors.
The Fed raised interest rates by 50 basis points last month after delivering four consecutive 75 basis point hikes last year but said it was likely to keep interest rates higher for longer to tame inflation.
Fed fund futures now show investors believe the most likely outcome for the Fed's February meeting is for a 25-basis point increase.
The dollar index , which measures the U.S. dollar against six major currencies, was last down 0.1% at 103.62, having fallen 1.15% on Friday as investors shifted into riskier assets.
"Data on Friday gave market some hope that perhaps the U.S. is slowing down and the Fed does not need to a lot more," said Moh Siong Sim, currency strategist at Bank of Singapore. "But the jury is still out whether we are really heading towards a soft landing scenario."
However, the labour market is still tight and likely to deter the Fed from slowing down any time soon, analysts said.
Sterling was on the charge again on Monday, rising 0.55% to $1.2159, after having spiked by 1.5% on Friday. The euro rose 0.28% to $1.0674, building on a 1.17% rally on Friday. The Japanese yen was the outlier among the major currencies, easing 0.2% to 132.33 per dollar.
Meanwhile, China continued to dismantle much of its strict zero-COVID rules around movement as it re-opened its borders.
Optimism over a swift economic recovery sent China's offshore yuan towards five-month highs against the dollar on Monday.
