December 31, 2018 / 4:25 AM / 7 months ago

FOREX-Aussie firms on Sino-U.S. trade optimism, yen drifts lower

* Graphic: World FX rates in 2018 tmsnrt.rs/2egbfVh

* Australian dollar gains 0.3 percent

* Dollar index flat in Asian trade

By Vatsal Srivastava

SINGAPORE, Dec 31 (Reuters) - The Australian dollar strengthened on Monday on expectations of progress in trade talks between China and the United States, although market sentiment remained fragile over looming concerns of slowing global growth and a partial U.S. government shutdown.

In a tweet which provided relief to financial markets, U.S. President Donald Trump said on Sunday that he had a “long and very good call” with his Chinese counterpart Xi Jinping and that a possible trade deal between the United States and China was progressing well.

The Australian dollar gained 0.3 percent to $0.7063. The fortunes of the Australian economy are closely tied to China, its largest trading partner.

“High beta and emerging market currencies will outperform if we get a trade agreement. Given the likelihood of improving risk sentiment following the trade deal and some underlying weakness in the U.S. economy, I would consider positive trade developments as negative for the dollar,” said Sim Moh Siong, currency strategist at Bank of Singapore.

China and the United States have been in a trade war for much of 2018, shaking world financial markets as the flow of hundreds of billions of dollars worth of goods between the world’s two largest economies has been disrupted by tariffs.

An official survey on Monday showed China’s factory activity contracted in December for the first time in more than two years, in a further sign of slackening demand and rising pressure as it heads into 2019.

The increasing strain on factories underscores expectations Beijing will step up stimulus measures to support the economy, which will keep the yuan under pressure. The dollar was marginally higher versus the offshore yuan at 6.8803 in Asian trade.

The dollar index, a gauge of its value versus six major peers was steady, fetching 96.44 in early Asian trade.

The U.S. currency has been weakening in recent weeks due to rising expectations that the Federal Reserve will pause its tightening cycle sooner than expected. Falling U.S. bond yields have also dampened investor sentiment towards the dollar.

U.S. 10-year Treasury bond yield was last at 2.71 percent on Monday, having fallen around 30 basis points in December.

Despite recent pressure on the greenback, the dollar index has gained 4.6 percent this year primarily due to a robust U.S. economy, falling unemployment and rising wage pressures. These strong fundamentals allowed the Federal Reserve to raise interest rates four times in 2018, with analysts now expecting possibly another 1-2 hikes if economic momentum does not falter.

The yen was changing hands at 110.47 per dollar, falling by 0.15 percent versus the greenback. It has gained around 2 percent on the dollar this year.

The Japanese currency has strengthened in the last two weeks of the year on its perceived safe-haven appeal due to growing concerns of slowing economic growth, U.S.-Sino trade tensions and highly volatile global equities. It gained despite soft Japanese data and a decline in benchmark Japanese bond yields, which fell back into negative territory for the first time in more than a year, indicating the high level of risk aversion in financial markets in December.

The Swiss franc, another safe haven, was steady at 0.9844. The franc has gained versus the dollar for two straight weeks due to risk-off positioning in the currency markets.

The euro quoted at $1.1440, was flat versus the dollar. Although the single currency has gained versus the greenback in recent weeks, economic growth and inflation in Europe remain much weaker than the European Central Bank’s expectations. The euro is set to lose around 4.5 percent versus the dollar in 2018.

Elsewhere, sterling, which has been battered this year due to Brexit woes, was fetching $1.2700, down 0.14 percent. The pound has lost 6 percent of its value versus the dollar this year.

With three months left until the United Kingdom is due to leave the European Union on March 29, British Prime Minister Theresa May’s Brexit deal is floundering and traders expect sterling to remain under pressure. (Editing by Jacqueline Wong)

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