Aussie off 3-1/2 yr low but vulnerable to emerging market selloff

By Naomi Tajitsu

WELLINGTON, Jan 27 - The Australian dollar backed off a 3-1/2 year low on Monday after steep selling late last week lost momentum, but it remained vulnerable to more losses if concerns about emerging markets spark further selling in higher-risk currencies.

The New Zealand dollar edged up, bolstered by expectations that the Reserve Bank of New Zealand will raise interest rates soon, with some in the market speculating that monetary tightening may begin as early as this week.

The Aussie and the kiwi have recovered after tracking losses in emerging market currencies, which took another beating on Monday as investors become more risk averse on concerns about slower growth in China, Argentina's announcement that it will loosen currency controls and political tensions in Turkey.

The Antipodean currencies tend to depreciate during times of market uncertainty, but analysts said their resilience on Monday suggested that their losses may be limited if the selloff in other markets does not escalate further.

"That the Aussie is holding up fairly well today suggests that it may not have too much more downside," said Hamish Pepper, a currency strategist at Barclays Capital in Singapore.

The Aussie may come under more selling pressure if the Federal Reserve announces it will further rein in its asset purchases at a policy meeting on Wednesday as such an outcome would benefit the U.S. dollar at the cost of other currencies.

But Pepper added: "It could move towards $0.8650 this week, but given how much it has already fallen, it could find some support around there."

The Aussie AUD=D4 rose 0.3 percent to $0.8708, pushing away from $0.8660, its weakest since mid-2010 hit late last week after a Reserve Bank of Australia board member was reported as saying the currency had not fallen enough.

Local flows were thin as markets were closed in Sydney and Auckland.

Some market participants said the Aussie recovered from its selloff after it clawed back above key support at $0.8670, which marks the 38.2 percent retracement of its all-time low touched in 2001 to its post-float peak in 2012.

The kiwi NZD=D4 edged up 0.1 percent to $0.8220, recovering from a slide to a three-week low of $0.8195 in offshore trade.

While the Antipodean currencies held up against the greenback, they fell against the yen, which often appreciates during times of uncertainty. The Aussie fell to a near five-month trough around 88.40 yen AUDJPY=R , while the kiwi slumped to a seven-week low around 83.65 yen NZDJPY=R .

Despite its losses against the yen, the kiwi has been broadly supported on expectations that the Reserve Bank of New Zealand will soon raise interest rates as its economy goes from strength to strength, raising inflation pressure.

Market pricing CSSY shows roughly a 50 percent chance that the RBNZ may raise rates at its policy review on Thursday, although its failure to deliver may trigger selling in the kiwi towards $0.8150, analysts say.

New Zealand government bonds rose, tracking U.S. Treasuries higher and pushing yields 3 basis points lower across the curve.

(Editing by Chris Gallagher)

Keywords: MARKETS AUSTRALIA/FOREX