Yen heads for sharpest weekly fall in a year as rate hike wagers recede

By Ankur Banerjee

SINGAPORE (Reuters) -The yen was set for its steepest weekly drop in a year on Friday, as investors fretted about fast-receding chances of another rate hike this year while comments from Japan's likely next prime minister failed to soothe market jitters.

The yen was last steady at 153.12 per U.S. dollar in early Asian hours, hovering near its weakest level since mid-February. The Japanese currency is on pace for a nearly 4% drop in the week, its biggest decline since early October last year.

The yen's drastic drop has been centred on worries that the Bank of Japan may not hike interest rates again this year after fiscal dove Sanae Takaichi's surprise victory, stoking worries of Japanese authorities needing to step in.

Takaichi, on course to become Japan's first female prime minister, said on Thursday that the country's central bank is responsible for setting monetary policy but that any decision it makes must align with the government's goal.

She also said she did not want to trigger excessive declines in the yen but her comments did little to lift the currency.

"Markets are still of the view that Takaichi's leadership will make it politically difficult for the Bank of Japan to raise interest rates," said Carol Kong, currency strategist at Commonwealth Bank of Australia.

"Finance Minister Kato's recent comments on the FX markets indicate imminent FX intervention is unlikely which may encourage markets to further sell the yen."

Traders are currently pricing about 45% chance of a rate hike from the BOJ in the December meeting and are only fully pricing in a 25 basis point hike in March.

FRENCH DRAMA DRAGS EURO

The euro last fetched $1.15635, anchored near two-month lows hit on Thursday and on pace for a 1.5% drop for the week, its sharpest decline in 11 months as the political turmoil in France weighed on the single currency.

French President Emmanuel Macron is searching for his sixth prime minister in under two years, hoping his next pick can steer a budget through a legislature riven by crisis.

The political paralysis has made it deeply challenging to pass a belt-tightening budget, demanded by investors increasingly worried by France's yawning deficit.

"In France, turmoil following the resignation of Prime Minister Lecornu has undermined EUR sentiment," said Kieran Williams, head of Asia FX at InTouch Capital Markets.

"Volatility remains elevated across FX markets as traders readjust positions in response to shifting central bank expectations and political risks."

That has left the dollar upbeat, with the dollar index, which measures the U.S. currency against six other units, at 99.4, near a two-month high. The index is on course for a 1.7% gain, its biggest jump in a year.

"The recent dollar rally has gone against market positioning and prompted a partial covering of USD shorts," said Chris Weston, head of research at Pepperstone.

"There remains a high degree of scepticism that the USD can materially push through 100, a level in the dollar index that was quickly reversed in May," he said in a note.

With the U.S. shutdown continuing and little to no economic data for investors to parse through for clues on the path the Federal Reserve is likely to take, markets are keeping an eye on comments from policymakers.

Traders are pricing in a 95% chance that the Federal Reserve cuts rates by 25 bps at its October meeting, while the odds of an additional cut in December have dropped to 80%, from 90%, in the past week, according to the CME Group's FedWatch Tool.

The influential New York Federal Reserve President John Williams signalled on Thursday he would be comfortable with cutting interest rates again, despite some policymakers' qualms about rising inflation that suggest such a decision would not be easily made.

In other currencies, the Australian dollar was 0.11% firmer at $0.6563, while sterling was at $1.33044, rooted near the two-month low it hit on Thursday.

The New Zealand dollar was at $0.57475, hovering near its lowest in six months after the central bank slashed its benchmark rate by an aggressive 50 bps on Wednesday, as policymakers signalled concerns about the frail state of the economy and kept the door open for further easing.

(Reporting by Ankur Banerjee in Singapore; Editing by Jacqueline Wong)