The dollar tumbled to near 16-month lows yesterday as traders took comments from a number of central bankers as a green light to continue dumping the currency and to use it as a funding tool to buy other assets.
This so-called carry trade is believed by many market players to be the main driver of the US unit's multi-month decline.
After trading within a tight range for nearly three weeks, the greenback suddenly lurched lower, breaching 74.50 on a trade-weighted basis – its weakest since the start of August 2008 – and decisively cutting through the $1.5050 mark versus the euro.
It also fell heavily against the yen, at one point touching a 10-month trough of Y87.40, and neared parity with the Swiss franc. The moves are likely to have been exacerbated by thin trading ahead of today's US Thanksgiving holiday.
Analysts said dollar selling was triggered by a statement in the minutes of the Federal Reserve's last policy meeting, released on Tuesday night, which described the dollar's recent decline as “orderly”. This was interpreted as meaning the Fed was not unduly concerned about the currency's weakness.
In addition, comments yesterday by an official at the Bundesbank claiming the level of the euro was not a concern for Germany, and talk from a Russian central bank official that the institution was making preparations to include the Canadian dollar in its reserves also hurt the US currency.
Mansoor Mohi-uddin, managing director of foreign exchange strategy at UBS, said: “The consensus of the markets remains bearish on the dollar. So headlines like these are keeping the greenback pressured.”
But he argued that dollar weakness was overdone. “Investors feel G10 central banks are not prepared to change interest rates to make carry trades less attractive. Moreover investors feel that emerging market central banks will keep diversifying out of each new dollar of FX reserves they're accumulating.
“But the currency market is becoming one-way and therefore vulnerable to a sharp reversal in sentiment if these assumptions prove false,” said Mr Mohi-uddin.