Dollar slips from two-year highs as U.S. rate cut bets grow

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LONDON (Reuters) – The dollar edged away from two-year highs on Friday after weak U.S. manufacturing activity data sparked worries that the trade conflict with China may hurt the world’s largest economy and affect the currency’s safe-haven status.

Against a basket of six major currencies, the dollar was down 0.2% at 97.686 at one stage and 0.7% off a two-year high of 98.371 hit the previous session.

The fall followed overnight data showing manufacturing activity hit its lowest level in almost a decade in May, suggesting a sharp slowdown in U.S. economic growth was under way.

Up to now, the bulk of the pain from the trade war has been felt in Asia, with economies from Singapore to Thailand all posting poor numbers.

“Lot of people for good reasons thought trade wars may be U.S. dollar-positive and other countries cannot retaliate,” said Commerzbank FX strategist Ulrich Leuchtmann.

“But in reality, it’s more difficult. This very disappointing PMI data and other factors like the Huawei story are all creating stress for the U.S. economy and derailing sentiment.”

President Donald Trump said on Thursday that U.S. complaints against Huawei Technologies Co Ltd might be resolved within the framework of a U.S.-China trade deal, while at the same time calling the Chinese telecommunications giant “very dangerous”.

Escalating trade tensions and weak data have fuelled rate cut expectations from the Fed. Money markets broadly expect one rate cut by October followed by another by January 2020.

The dollar weakness helped sterling recover slightly from a 4-1/2 month low while the euro briefly inched above $1.12 to hit a one-week high.

Against the yen, the dollar edged down to 109.675 yen, extending losses overnight, when it gave up two-thirds of a percent, its steepest drop in a single session in two months.

Dollar weakness also helped boost sterling, though the British currency extended its rally after UK Prime Minister Theresa May said on Friday she would quit, setting up a contest that will bring a new prime minister to power who could pursue a cleaner break with the European Union.

It was up a quarter of a percent at $1.2688 around midday in Britain, moving further away from a 4-1/2 month low hit on Wednesday.

The euro also benefited from dollar weakness, and might have also been helped by the Dutch part of the EU parliamentary elections.

An exit poll showed the Labour party of European Commissioner Frans Timmermans won a surprise victory over a Eurosceptic challenger who had been topping opinion surveys.

The euro has been pinned lower in recent weeks by the prospect of Eurosceptic parties across the continent performing well in the elections.