NEW YORK The euro traded in a narrow range after hitting a new two-month high against the dollar on Thursday after Greek leaders agreed to a deal on reforms needed to avoid a messy default and the European Central Bank chief flagged tentative economic improvement in the euro zone.
Greece's deal removed an important obstacle for the euro, which had been trading narrowly as investors placed bets based on headlines. With the overhang of Greece out of the way, the euro's strength could prove to be temporary, with the focus likely shifting to larger debt-burdened countries, such as Italy and Spain.
Greek political leaders clinched a long-stalled deal on reforms and austerity measures to secure a second international bailout and avoid a chaotic default, hours before the country's financial backers began meeting in Brussels.
"The euro will likely see some more gains in the next few days, largely due to people taking profits on short euro positions," said Chris Fernandes, vice president, senior foreign exchange advisor for the capital markets division of Bank of the West.
"While the ECB's LTRO (long-term refinancing operation) gives much more assurance to the euro zone, it is also flooding the market with liquidity and by pushing yields down it also puts downward pressure on the euro."
The ECB's second three-year liquidity operation, or LTRO, is on February 29. The central bank funneled banks 489 billion euros at a first three-year ultra-cheap loan operation in December, a measure that had gone a long way to calm financial market turmoil.
Fernandes, who is based in San Ramon, California, said he sees the euro dropping below $1.30 within the next month.
"It also would not be surprising if it hits the January low," he said. "The euro, however, should fluctuate somewhere between the low-to-mid $1.30s in the second half of the year."
Bank of the West's capital markets division has almost $10 billion in assets under management, which includes currencies.
In late afternoon New York trade, the euro was up 0.2 percent at $1.3284 after earlier hitting a two-month high of $1.3321.
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The ECB held rates at 1 percent Thursday but President Mario Draghi said the outlook for the economy, while uncertain, had stabilized.
The euro also rallied against the yen, hitting a two-month high of 103.28 yen.
Unlike the ECB, the Bank of England said it would ease policy further by injecting another 50 billion pounds into the UK financial system. But sterling held slender gains against the dollar, as some expected even more aggressive action.
EUROPE, U.S. OUTLOOKS IMPROVE
An unexpected decline last week in the number of Americans applying for jobless benefits also boosted hopes for faster U.S. growth in 2012 and helped the dollar rise against the yen.
The dollar last traded 0.9 percent higher at 77.00 yen.
Despite fears about Europe's debt crisis, the euro ended 2011 down just 3.13 percent and has nearly recovered those losses so far in 2012.
"What currency markets have been telling us all along is that the dire language we heard about a collapse of the euro" was exaggerated, said Jonathan Lewis, chief investment officer at Samson Capital Advisors, with $7.4 billion in assets.
He said Samson's currency strategy is to be modestly underweight the euro but said that could eventually change to neutral.
"While the situation remains fluid, the agreement between the Greek politicians is a key development which should pave the way for further Greek financing and a Greek debt writedown in the coming days," said Nick Bennenbroek, head of currency Strategy at Wells Fargo in New York.
"Overall we believe today's central bank and political developments should support a favorable market backdrop, suggesting further gains for commodity and emerging currencies."
(Additional reporting by Steven C. Johnson and Nick Olivari; Editing by James Dalgleish)