August 12, 2015 / 8:33 AM / 2 years ago

FOREX-Dollar drops as China move raises doubts over Fed hike timing

* PBOC sets yuan mid-point at weakest levels since Oct 2012

* Lower U.S. yields pushes dollar lower

* Markets ponder likelihood of Fed hike after China move

By Anirban Nag

LONDON, Aug 12 (Reuters) - The dollar fell 0.6 percent against a basket of currencies on Wednesday, coming under pressure as Treasury yields dropped on doubts over whether the U.S Federal Reserve will raise interest rates in the wake of China's devaluation of the yuan.

The yuan extended its losses, dragging the growth-linked Australian and New Zealand dollars to six-year lows with it, while another set of disappointing Chinese data bolstered safe-haven currencies such as the yen.

The euro, meanwhile, rose, helped by the unwinding of euro-funded carry trades in the yuan. The single currency hit a one-month high of $1.11385, up 0.8 percent on the day. The dollar index fell to 96.691, while the greenback shed 0.5 percent to trade at 124.42 yen .

"There are some question marks being raised about the timing of the Fed hike," said Niels Christensen, FX strategist at Nordea. "The euro is squeezing higher against the dollar, as Treasury yields drop."

In China, the spot yuan fell to 6.44 per dollar, its weakest since August 2011, after the central bank set its daily mid-point reference at 6.3306, even weaker than Tuesday's devaluation. The currency fared worse in international trade, touching 6.5888 yuan per dollar, its lowest since early 2011 .

Foreign exchange traders in Shanghai said Chinese state-owned banks were selling dollars on behalf of the central bank, which was intervening to keep the yuan around 6.43 against the dollar.

The latest PBOC moves came after it surprised markets on Tuesday by aggressively lowering its guidance rate, pushing the yuan down nearly 2 percent.

The Aussie, widely considered a more liquid proxy for China plays, was trading flat at $0.7297, after plunging as low as $0.7217, its lowest since mid-2009. The New Zealand dollar also fell to a six-year low while the Norwegian crown fell to a 7-month low against the euro.

Chinese data released on Wednesday underscored Beijing's need to prop up its economy. Factory output rose 6.0 percent in July from a year earlier, falling short of forecasts. Fixed-asset investment and retail sales figures also missed expectations.

The uncertain economic picture for China and the move to devalue the currency fuelled questions about the timing of the Fed's long-awaited increase in interest rates, which many still believe could come as early as next month.

Nevertheless, Treasury yields dropped and weighed on the dollar. The benchmark 10-year note yield slipped to 2.06 percent, compared with its U.S. close of 2.139 percent.

"While the move by the PBOC highlights the risks to the U.S. outlook, we retain our call for a September hike, but believe the probability has fallen somewhat, as the move may raise FOMC concerns about global growth and inflation pressures," strategists at Barclays said. (Additional reporting by Lisa Twaronite; Editing by)

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