Bloomberg News reported on Wednesday that Chinese officials reviewing the country's vast foreign exchange holdings had recommended slowing or halting purchases of US Treasury bonds amid a less attractive market for them and rising US-China trade tensions. The USD was down nearly 0.5% to 92.0 on the DXY index.
After the Bloomberg report, USA 10-year Treasury yields climbed five basis points to almost 2.6% for the first time since last March, up about 15 basis points from the end of last year.
China's central bank, the Peoples Bank of China (PBoC) with its $3.1 trillion foreign exchange reserve and manages the yuan rate against a trade-weighted basket, will also factor into the decision about how to go about diversifying their forex reserves.
CURRENCIES: The dollar rose to 111.68 Japanese yen from 111.43 yen.
China wouldn't let geopolitical issues drive decisions on foreign exchange holdings, the Eurasia Group said, after Bloomberg News reported officials had recommended scaling back US government debt purchases.
China is the largest foreign holder of U.S. Treasuries.
"The dollar was already notably weak ahead of today, despite the fact that USA data remained strong and yields continued to rise", said Boris Schlossberg, managing director of FX strategy at BK Asset Management in NY.
But China, with its huge pile of U.S. treasuries, is unlikely to take any hasty decision that would destabilise the market as it would amount to commiting hara-kiri.
It is possible that comments from the unnamed sources cited by Bloomberg and other outlets are connected to an ongoing trade dispute between the U.S. and China.
USA stocks have had a strong start to the year, with the S&P and the Nasdaq having closed at record highs on every single day in 2018, buoyed by optimism over global economic growth and expectations of a strong quarterly earnings. China's existing trade strain with the United States may also be a reason for slowing or stopping U.S. debt purchases, they say. But it might not be time to panic yet, strategists at Danske Bank A/S said.
If central bank reserves are to be truly diversified, or bare any resemblance to the shape of the global economy, then reserves managers have to keep pace with this trend.
Even before today's news, yields had been climbing amid positive USA economic data, rising rates in Europe, and some market chatter this week that Europe and Japan might be inclined to take their feet off the stimulus gas pedal a bit earlier than expected due to economic growth. Reports that China may slow its purchase of US government bonds weighed on investor sentiment.
'While it seemed to come as a surprise, it's worth noting that the absolute purchase level was still within the Bank of Japan's target range of purchases, ' he said. The 10-year breakeven rate, a proxy for the annual inflation rate the market expects for the next decade, climbed Tuesday to about 2.05 percent, the highest in 10 months.
The spike in bond yields meanwhile boosted the share prices of banks, whose net interest margins receive a boost from higher borrowing rates.