U.S. dollar retreats as risk sentiment perks up, but outlook still upbeat

© Reuters. FILE PHOTO: U.S. one dollar and British five pound are seen in this illustration taken May 7, 2021. REUTERS/Dado Ruvic/Illustration

By Gertrude Chavez-Dreyfuss and Elizabeth Howcroft

NEW YORK/LONDON (Reuters) - The safe-haven dollar on Wednesday pulled back from more than three-month highs, with risk appetite back up with stocks higher, but investors remained cautious due to inflation fears and concerns about the highly contagious coronavirus variant.

Another safe haven, the Japanese yen, was also down on the day against the dollar, as risk aversion eased.

The Delta variant of the coronavirus, which has caused a surge in infections worldwide, rose to the top of investor concerns along with inflation, prompting global stocks to drop sharply on Monday. European equity markets though picked up on Wednesday and Wall Street shares rose as well.

In mid-morning New York trading, the dollar index, a measure of its value against six major currencies was little changed to slightly lower at 92.911. On Tuesday, the index hit a more than three-month high.

Market participants remained bullish on the dollar's outlook at least over the next few months.

"The dollar is enjoying a multi-dimensional appeal right now," said Joe Manimbo, senior market analyst at Western Union (NYSE:WU) Business Solutions in Washington.

"On the one hand, the dollar is enjoying safe-haven flows as virus concerns cloud the economic outlook. On the other hand, we have high inflation which is keeping the door open for the Federal Reserve to taper stimulus."

The Fed's stimulus measures or quantitative easing have restrained the dollar as it increased the currency's supply in the financial system.

"It's becoming increasingly difficult for the Fed to be able to reconcile its stance that inflation is transitory," said Joel Kruger, currency strategist at LMAX Group.

Kruger expects more dollar strength in the third quarter, with the dollar index heading towards 96 to 97.

Against the yen, the dollar rose 0.4% to 110.30.

The Australian dollar, seen as a liquid proxy for risk appetite, fell to its lowest since November before recovering somewhat. It was last up 0.1% at US$0.7336, while the New Zealand dollar rose 0.5% to $0.6957.

Australia's two largest states reported sharp increases in new COVID-19 cases on Wednesday, a blow to hopes that lockdown restrictions would be lifted as more than half the country's population was subject to stay-at-home orders.

The British pound, which on Tuesday hit its lowest since February, was up 0.4% at $1.3677.

Analysts pointed to a stand-off between Britain and the European Union. Prime Minister Boris Johnson said that his government would outline its approach on the Northern Ireland Protocol to Britain's parliament on Wednesday. COVID-19 cases in Britain are also surging.

The euro was down 0.1% versus the dollar at $1.1786.

Currency markets are looking ahead to the European Central Bank's (ECB) meeting on Thursday. A dovish tone is expected after ECB President Christine Lagarde foreshadowed a guidance tweak in an interview last week.

In cryptocurrencies, bitcoin rose back above $30,000, having dipped below this key level for the first time in a month on Tuesday. It last traded up 6.5% at $31,735, while ether was up 8% at $1,929.36.