Dollar dips, stocks steady as traders brace for Fed easing

By Kevin Buckland and Sruthi Shankar

(Reuters) - The dollar slipped on Wednesday while Treasury yields edged higher and global stocks steadied as traders weighed the odds of a super-sized Federal Reserve interest rate cut later in the day.

The U.S. currency dropped 0.5% against the yen to 141.68, handing back about half of its gains from Tuesday, when unexpectedly robust U.S. retail sales data was taken as weakening the case for aggressive Fed easing.

U.S. bond yields however ticked higher. The 2-year Treasury yield, the most sensitive to short-term rate expectations, edged up 2.5 basis points to 3.617%.

The chances of the Fed kicking off its easing cycle with a super-sized cut of 50 basis points (bps) were revived earlier this week, after media reports raised the prospect of more aggressive action.

Financial markets are fully pricing in a 25 bps rate cut, while the odds of a 50 bps cut stood at 61% by Wednesday, according to LSEG data, up from as little as 14% a week ago.

"We love this debate - everyone's very focussed on 50 or 25 but what is important is that they communicate to the market that they intend to go neutral by next summer," said Samy Chaar, chief economist at Lombard Odier.

"The worst that you can get is they go 25 and pretend that everything is normal and that monetary policy still needs to be restrictive."

European stocks slipped 0.3%, with technology and healthcare shares among the biggest laggards.

The MSCI's index of world stocks was flat after having touched a two-week high a day earlier and just below an all-time high.

Japan's Nikkei stock index climbed as much as 1.3% early on in reaction to overnight weakness in the yen, but pared those gains to 0.5% as the currency rebounded.

BULL RUN TO GO ON?

Wall Street finished nearly unchanged on Tuesday, failing to sustain early momentum that pushed the S&P 500 and Dow Jones to record intraday highs. S&P 500 futures pointed a flat open later on Wednesday.

The euro rose 0.2% to $1.1132. Sterling edged up 0.35% to $1.3208 after data showed British inflation held steady in August, but picked up in the services sector, adding to bets in financial markets that the Bank of England will keep interest rates on hold on Thursday.

Traders are pricing in just a 26% probability of a 25-bp cut from the BoE on Thursday.

"Today's inflation data does not warrant any justification for a surprise cut tomorrow," said Derek Halpenny, head of research global markets EMEA at MUFG. "A larger 50bp rate cut from the Fed tonight would likely lead to increased speculation of a rate cut from the BoE."

Meanwhile, gold struggled to find its feet on Wednesday, trading flat at $2,569 per ounce after retreating from record highs earlier this week.

Crude oil also pulled back after gaining about $1 a barrel on Wednesday as tensions escalated in the Middle East.

U.S. crude futures declined 1.4% to $70.22, and Brent crude futures lost 1.2% to trade at $73.83.

(Reporting by Kevin Buckland in Tokyo and Sruthi Shankar in London; Editing by Shri Navaratnam, Jacqueline Wong and Angus MacSwan)