Major state-owned Chinese banks seen selling dollars to support yuan

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Valuations remain supportive of the dollar, with its trade-weighted basket still below long-term averages and the market pricing in two more interest rate hikes for 2018.

The cautious mood in the market comes as investors keep an eye on trade tensions between the US and its trading partners, most notably China.

The benchmark share index in Shanghai, which entered a bear market last week, is trading near its lowest level in more than two years.

The US and China are embroiled in trade dispute which will see US tariffs on US$34 billion of Chinese goods come into effect on Friday. Retail stocks were down 3.58 percent, with Fast Retailing lower by 2.87 percent. The yuan retreated 0.5 per cent to an eight-month low after depreciating by a record in June. The Hong Kong market remained choppy and was last down 1.9 percent, while the Shanghai bourse edged up 0.05 percent.

Previous big plunges in the yuan in recent years have wreaked havoc in Chinese and global stock markets. "I think this will continue at least until the July 6 deadline".

After falling around 0.8 percent against the dollar early on Tuesday, the yuan recouped its losses in afternoon trading, moving into positive territory.

"Recently the foreign exchange market has shown some volatility and we're paying close attention to that", Yi said.

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The central bank put the midpoint roughly in line with market expectations at 6.6497 yuan per dollar, its weakest level in about 10 months, setting the stage for the day's drop. Beijing has said it would retaliate with tariffs on United States products.

Also on Monday, Washington moved to block China Mobile from offering services to the USA telecommunications market, recommending its application be rejected because the government-owned firm posed national security risks. President Donald Trump also threatened on Monday to "do something" if the United States was not better treated by the World Trade Organization.

The mood was more cheerful in Europe where a pan-European equity index rose half a per cent, the euro firmed marginally and bond yields rose after German Chancellor Angela Merkel struck the deal with her Bavarian conservative coalition partners. The yen gained 0.2 percent versus the dollar to 110.39, supported by its safe haven status.

RBA Governor Philip Lowe said "one uncertainty regarding the global outlook stems from the direction of worldwide trade policy in the United States", cautioning that the recent U.S. -China trade tariffs, traders were more concerned about jettisoning risk which could have contributed to the amplified price action.

The Aussie was steady at $0.7338 after dropping to $0.7311 overnight, its lowest since January 2017.

The lead from Wall Street is negative as stocks failed to sustain an early upward move in Tuesday's abbreviated session, finishing in the red ahead of the July 4 holiday.

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