* Euro surrenders gains vs dollar
* Fitch downgrades Spain and Italy credit ratings
* Moody's downgrades UK banks but sterling/dollar firm
By Steven C. Johnson
NEW YORK, Oct 7 Downgrades for Italy and Spain
knocked the wind out of the euro on Friday, and traders said
anxiety about Europe's economy and fragile banks will likely
continue to hobble it in the weeks ahead.
Higher-yielding, growth-sensitive currencies such as the
Canadian and Australian dollars should fare better, especially
after data showed U.S. hiring rose more than expected last
month, easing some concern about the world's biggest economy.
If the view that the United States can avoid recession
takes hold, investors may renew borrowing U.S. dollars at
near-zero interest rates to fund riskier but more lucrative
trades in other currencies and assets, traders said.
That's a practice that had fallen out of favor in August
and September as markets fretted over slower U.S. growth and a
worsening euro zone sovereign debt and banking crisis.
The debt crisis continued to hurt the euro, which slipped
0.3 percent to $1.3387 Friday, off a $1.3524 session
While it was on track for a slender weekly gain against the
dollar -- its first in the last three -- the euro was still
rooted in a downtrend that began at $1.4548 on Aug. 29.
The dollar also rose against the yen and the Swiss franc,
up 0.2 percent to 76.80 yen and up 0.6 percent to 0.9266
Swiss francs .
The euro relinquished earlier gains after Fitch cut the
credit ratings of Italy and Spain -- the third and fourth
largest euro zone economies -- citing a worsening euro zone
debt crisis and fiscal situation in both countries.
"This brings the sovereign debt crisis back into focus and
raises the risk for contagion," said David Song, currency
analyst at DailyFX in New York.
"There will be continued reliance on the European Central
Bank to do more when the (euro zone) is already struggling to
pass a second bailout for Greece. As they try to gain time,
things are getting worse."
EURO PRESSURE COULD CONTINUE
Italy and Spain have faced higher borrowing costs as
investors worry about their finances, and that has put pressure
on European banks who hold their sovereign bonds.
The euro may get a boost if euro zone leaders can cobble
together a plan on Sunday to recapitalize banks facing hefty
But Brown Brothers Harriman strategist Mark McCormick said
the prospect of a euro zone recession and interest rate cut
were gaining traction after the ECB this week announced new
funding plans to stabilize banks and the euro zone economy.
"That means the euro probably doesn't get much momentum
even on good news," he said. "A euro zone recession is still
possible and the ECB probably cuts rates before 2012."
Jens Nordvig, head of G10 currency strategy at Nomura, said
the euro will remain under pressure in the fourth quarter and
should hit $1.30 before the end of the year.
Sterling may struggle as well, he said. Though it rose 0.7
percent to $1.5545 on Friday , it remained near
Thursday's 14-1/2-month low beneath $1.53, hit after the Bank
of England said it would pump another 75 billion pounds into
While U.S. interest rates are set to remain at zero into
2013, McCormick said the data showing 103,000 new jobs added in
September at least suggests the U.S. economy "is not in as bad
shape as some people think."
Any signs of future improvement should benefit the
Australian and Canadian dollars, among the hardest hit in
recent months as investors cut exposure to risk, he said.
The Australian dollar rose 0.4 percent to $0.9783
and was up about 1 percent on the week, its best since the week
ending Sept. 4. The U.S. dollar was up 0.1 percent at 1.0398
Canadian dollars but was down 0.9 percent on the week.