FOREX-Euro struggles as expectations of looser ECB policy grow

Reuters

* Euro falls for fifth day as inflation slows

* UBS expects ECB rate cut next week

* Euro/dollar implied vols jump on renewed spot weakness

By Anirban Nag

LONDON, Nov 1 (Reuters) - The euro fell to a two-week low

against the dollar on Friday, extending losses to a fifth day as

slowing euro zone inflation led some in the market to forecast a

near-term European Central Bank rate cut.

A cut would hurt the euro's rate advantage over other major

currencies. The euro's weakness was broad-based; it hit a near

three-week low against the yen and a two-week trough

against sterling.

Its losses triggered fresh demand to hedge against further

weakness with one-month euro/dollar implied volatilities

hitting their highest in three weeks at 7.2 percent.

In higher volumes than of late, the euro fell to

$1.3508 in European trade, its lowest since Oct. 16. It was last

down 0.4 percent at $1.3530, having fallen 1.1 percent on

Thursday. The losses left it on track for its worst weekly

performance since early February.

The euro's fall accelerated after data on Thursday showed

euro zone inflation fell to a four-year low of 0.7 percent in

October, way under the ECB's target of just below 2 percent.

"In light of those inflation numbers, we have changed our

call and are now expecting the ECB to cut its main refinance

rate at next week's meeting," said Geoffrey Yu, currency

strategist at UBS.

"While some in the market have priced that in, quite a few

haven't. We recommend investors to hold short positions in the

euro and add to those positions after the ECB meeting."

A depressed euro zone labour market, with unemployment still

at record highs in September, will give the ECB another reason

to consider easing policy at next Thursday's meeting.

Thursday's jobs report included revisions to previous

months' data, bolstering a widely-held view that an elevated

currency is the last thing euro zone policymakers want.

"Our economists now forecast a rate cut in December," said

analysts at BNP Paribas. "Given that the market has under-priced

this risk, we think that there is substantial scope for the euro

to weaken in the next few weeks."

Options traders cited renewed demand for euro puts or bets

the currency will fall. One-month risk reversals

- a measure of relative demand for options on a currency rising

or falling - were at 0.7 vols in favour of euro puts.

Just a week ago, there was a slight bias for euro calls - or

bets it would gain.

RENEWED PRESSURE

Renewed pressure on the euro saw the dollar index rise to a

two-week high of 80.547, pulling further away from a

nine-month trough of 78.998 plumbed a week earlier.

The dollar was helped by Thursday's strong Chicago business

activity survey, which fuelled speculation the national ISM

survey of manufacturing, due later on Friday, could also deliver

a positive surprise.

The upbeat data revived speculation the Federal Reserve may

scale back stimulus at its December meeting, though many still

tip March as the likeliest window for a move.

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