FOREX ASIA UPDATE - USD

A further decline in Japanese bond yields helped boost the relatively high-yielding dollar. USDJPY traded to a high of 121.80 from 121.47, while EURUSD traded down to a low of 1.2923 from 1.2968.

US bond yields were little changed overnight with the 2 and 10-years down by 1 and 2bp on Friday's close.

However, Japanese 2-year bond yields are down by a further 3bp and a total of 10bp lower since before the BoJ decision not to lift rates last week.

Fed President Yellen mostly repeated comments she made on Jan 17 that the tight job market continues to threaten inflation but that the Fed funds rate is "well positioned" to slow inflation.

Meanwhile, oil prices closed lower at US$51.99/bbl, while the CRB index also slid, suggesting that a recovery in commodity prices may not be as fast as many had hoped.

Though recent data in the US has been firm, financial markets remain reluctant to aggressively price in a more hawkish Fed.

Core CPI and PPI numbers last week were tame, and comments from Fed officials have started to suggest that the risks to core inflation rising further are subsiding.

As policymakers globally continue to emphasise price stability, currencies will weaken where central banks loosen monetary policy.

We see the Fed as the only major G10 bank likely to cut interest rates significantly this year.

In the near term, the market is unlikely to see any significant shifts in the absence of macro events, so we expect relative value trades to continue to do well.

One near-term risk event for the dollar, however, is the planned changes to the management of China's FX reserves and the fate of the US$500bln-plus of Treasurys the PBoC is estimated to be holding.

It has been confirmed that a new investment vehicle will be established and that it has a mandate for high-yield overseas investments.

Obviously the worst-case scenario for the dollar would be for existing holdings of US assets to be sold as part of China reserve diversification attempts, but it's more likely that future accumulation of reserve assets will be on a more profit-maximizing basis, gradually removing a pillar of support for the dollar as US yields fall.