* Solid Italian bond sale buoys euro, but borrowing costs
* Fed's Bernanke reiterates support for Fed stimulus
* Options market shows bias for euro weakness
* Yen gains in fiscal year-end flows, safe-haven status
By Julie Haviv
NEW YORK, Feb 27 The euro rose against the U.S.
dollar for the first time in three sessions on Wednesday as
solid demand for Italy's first bond sale since Monday's general
elections brought relief, but the potential for prolonged
political uncertainty should contain the currency's upside.
After falling nearly 1.0 percent on Monday in the wake of
Italy's inconclusive elections, investors opted to buy the euro
at cheaper levels after robust demand for Italy's bonds despite
the rise in Italian 10-year debt costs which climbed more than
half a percentage point.
Italy's borrowing costs rose to their highest in four
months, which could raise concerns the euro zone debt crisis
could re-emerge in Italy, the euro zone's third largest economy.
Investors continue to fret about Italy's ability to reform
its indebted economy following the weekend elections which
showcased the lack of popular support for austerity policies and
resulted in a hung parliament.
"The last few days have reminded the market that there is
tremendous uncertainty risk in the euro zone in terms of
economic growth as well as the outlook for reform," said Camilla
Sutton, chief currency strategist at Scotiabank in Toronto.
"Technical and fundamental signals still warn of euro
downside ahead," she said. "Italy's vote warns that the path for
Europe has just become more complicated."
The euro was trading around at $1.3078 midsession on
Wednesday, up 0.1 percent on the day, but below a session high
of $1.3122 hit after a survey showed euro zone economic and
business confidence improved for a fourth straight month in
Technical strategists said there would be support for the
euro at this year's low of $1.2998, and below that around the
Dec. 7 low of $1.2876.
The euro, however, held above Tuesday's low of $1.3017,
which was its weakest since Jan. 7, but strategists say further
losses are likely as uneasy investors wait to see whether
Italian politicians can form a coalition, or will call fresh
"Euro weakness is going to return and I think by the end of
the day we will see a drop through yesterday's lows," said Adam
Myers, senior FX strategist at Credit Agricole.
"A grand coalition is not going to be announced any time
soon and until we get any sign of a new election uncertainty is
going to continue."
In the options market, the one-month euro/dollar risk
reversals showed their highest bias for euro
weakness since late June as investors bought euro put options -
bets the currency will weaken. Risk reversals had flipped to
euro calls - bets it will rise - towards the end of last month.
Meanwhile, Federal Reserve Chairman Ben Bernanke on
Wednesday reiterated comments from the previous day, when he
said the central bank would keep buying bonds for a while,
helping alleviate some market concerns about an early end to the
Fed's easing program.
UBS's chief currency strategist, Mansoor Mohi-uddin said
that while Bernanke is still "dovish" on policy, a likely
improvement in the U.S. economy would set the stage for the Fed
to reduce its asset purchase programme in the second half of the
"We prefer the dollar as the Fed will be withdrawing some of
its unconventional policy setting," he added.
The yen edged up, benefiting from Japanese fiscal year-end
flows and its status as a safe-haven currency as investors fret
about the political situation in Italy.
The U.S. dollar last traded at 91.24, down 0.8
percent on the day, but above a one-month low of 90.92 touched
on Monday. The dollar also hit a 33-month high of 94.76 yen on
The euro stood at 119.42, down 0.6 percent on the
day, but holding above Monday's one-month low of 118.74 yen.
The yen has been one of the worst performing major currency
so far this year as investors bet on more aggressive policies
from the Bank of Japan to beat deflation, and positioned for
more monetary stimulus.
Strategists said the yen's current strength will likely be
temporary given demand among Japanese investors for
higher-yielding foreign assets.
"The yen weakening trend will resume because on the Japanese
side of the equation the incentive to look for better returns
elsewhere is still there," said Ian Stannard, head of European
FX strategy at Morgan Stanley.