FOREX -Dollar pauses after strong gains, euro struggles to hold gains

Reuters

* Dollar index hovers near two-month peak

* Solid US jobs data keeps alive December tapering view

* Diverging Fed/ECB policy path expected to keep eurosubdued

By Anirban Nag

LONDON, Nov 11 (Reuters) - The dollar took a breather onMonday after hefty gains over the previous two sessions, but itsbroad uptrend was intact on speculation the Federal Reserve mayscale back monetary stimulus sooner than expected.

The euro struggled to make much headway as the Fed and theEuropean Central Bank's diverging monetary policy paths promptedinvestors to sell the single currency at higher levels.

Amid lower-than-usual volumes, the euro was flat at $1.3375, not that far from a two-month trough of $1.3295 plumbedlast Thursday after the European Central Bank surprised themarket by cutting its main interest rate to a record low 0.25percent.

The dollar was flat against the yen at 99 yen whilethe dollar index shed 0.15 percent to 81.155. It wasthough still within sight of a two-month high of 81.482 set onFriday after a key U.S. employment report showed employers added204,000 new jobs last month, soundly beating forecasts for125,000 jobs.

The strong data was even more surprising as it came in amonth when a budget standoff in Washington forced a 16-daygovernment shutdown, suggesting the U.S. economic recovery wason a firmer footing than previously thought.

As a result U.S. yields rose, with the gap between two-yearU.S. Treasuries and their German counterparts rising to the highest since mid-July.

The 10-year U.S. yield also rose towards a neartwo-month high as investors brought forward expectations of whenthe Fed may start to withdraw stimulus to as soon as next month,all of which underpinned the dollar as rising yields make acurrency more attractive to hold.

"The dollar has come off slightly, but the defining factoris the rise in the U.S. yields," said Jeremy Stretch, head ofcurrency strategy at CIBC World Markets.

"The dollar will be supported and for the euro any bouncetowards $1.34 will be sold into."

Although the ECB's rate-setting committee was split aboutThursday's decision to cut rates, Executive Board member BenoitCoeure said on Saturday that the bank could trim interest ratesfurther and provide more liquidity.

Speculators have been cutting long euro positions and thistrend is likely to gather pace with the euro zone set to face aprolonged period of falling inflation. That could see the ECBdeploying more aggressive monetary easing instruments to supportnascent growth.

"We continue to expect a diverging monetary policy outlookto drive euro/dollar lower in the medium term," Barclays Capitalanalysts said in a note.

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