LONDON: The dollar rose to a seven-month high after the Federal Reserve flagged "significant downside risks" to the economy, but stopped short of bold monetary easing, leading to a sell off in higher-yielding currencies.
Analysts questioned whether the Fed's move to shift its portfolio in favour of long-term debt would bolster the economy.
Investors unwound leveraged positions funded in dollars and shifted funds back to the more liquid greenback. The low-yielding US dollar and the Japanese yen are usually sought during times of financial stress and pessimism about global growth.
The euro was hovering near seven-month lows, while the Australian dollar , a proxy for global growth, fell below parity against the US dollar for the first time since early August.
"Its all risk off. The markets have not taken what the Fed had to say about the economy very well," said Neil Mellor, currency strategist at Bank of New York Mellon. "The euro looks set to test the $1.35 level and break below that level could see it settle in a new $1.30-1.35 range in coming months."
European stock markets were also in the red as were currencies of emerging economies like the Brazilian real and the South African rand which made their biggest daily losses since the global financial crisis in 2008.
The Fed unveiled a programme, dubbed "Operation Twist", putting more downward pressure on long-term interest rates in a bid to help the ailing housing sector, but few think it is enough to seriously bolster growth.
Additional factors seen supporting the dollar were slightly higher short-term rates and the Fed's decision not to increase the money supply.
The dollar index, the gauge of its performance against a basket of currencies, jumped to 78.13, its highest since late February. It was last up 1 percent at 78.084.
The euro was down 0.3 percent at $1.3530, not far from a seven-month low of $1.3495 hit last week. It eased from Wednesday's peak at $1.3800 with bears targeting stop-loss orders lurking around $1.3500.
According to Societe Generale Cross Asset Research, hedge funds have initiated their biggest net short positions against the euro since June 2010. It added that while current positioning was below peaks reached in June last year, it lent strong support to the US dollar especially against the euro.
The euro fell 0.4 percent against the yen to 103.15, a 10-year trough, on trading platform EBS.
Copyright Reuters, 2011
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