Dollar gains as U.S. economic strength supports sentiment

LONDON (Reuters) - The dollar rose to its strongest level of 2020 on Monday after last week's run of data confirmed that the U.S. economy is holding up well, while China's yuan briefly hit a new six-month high.

Mostly, however, it was another quiet start to the week for currencies, with FX volatility near all-time lows and little in the way of key economic data.

Investors are focused on Tuesday's Bank of Japan meeting and Thursday's European Central Bank meeting.

Trading volumes were thin as Lunar New Year approaches in Asia and with U.S markets closed for Martin Luther King day on Monday.

Figures on Friday showed U.S. homebuilding surged to a 13-year high in December. Retail sales also rose and a gauge of manufacturing activity rebounded to its highest in eight months.

The strength in the U.S. economy underlines its relative outperformance versus the euro zone, although recent data point to a bottoming out in the European economy, as well as a recovery in China.

"Data released since the previous ECB meeting have been positive and consistent with the slightly more optimistic tone struck by (ECB President Christine) Lagarde in December regarding the economic outlook," RBC Capital Markets' currency strategist Adam Cole said.

The euro has failed to benefit much from the more positive noises, however, and the euro/dollar exchange rate is firmly stuck within a tight trading range.

The dollar edged up 0.1% against a basket of currencies, with the index rising to as high as 97.727, its strongest since Dec. 24. The euro was down 0.1% to $1.1083 .

China's offshore yuan rose to as high as 6.8458 , a new six-month high, before the rally fizzled. It traded at 6.8692, down slightly, by 1620 GMT.

China on Friday posted its slowest annual growth figure in almost 30 years, although December data showed revived business confidence and quickening factory output.

Sterling dropped on Monday to as low as $1.2962 , down 0.3% before recovering to $1.2997, after weekend comments by finance minister Sajid Javid that Britain would not commit to sticking to European Union rules in post-Brexit trade talks.

Sterling also declined versus the euro to 85.27 pence , down 0.1% on the session.

The pound is now at the mercy of employment data on Tuesday and business surveys at the end of the week. Money markets price in a near 70% chance of a Bank of England rate cut later this month in the face of a struggling economy.

Japan's yen was unchanged against the dollar at 110.16 yen ahead of the BoJ meeting on Tuesday.

"Reduced pressure on the BoJ to ease monetary policy further should help to ease downside risks for the yen although it has clearly not been sufficient in the current 'risk-on' environment to reverse the yen's weakening trend," MUFG analysts wrote.

The BoJ is expected to keep policy steady and nudge up its growth forecasts as improved macroeconomic indicators take some pressure off the central bank for more stimulus.

(Reporting by Tommy Reggiori Wilkes; Editing by Mark Heinrich and Andrew Heavens)

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