Dollar firm on manufacturing data, A$ gains after RBA

By Hideyuki Sano

TOKYO (Reuters) - The dollar held firm on Tuesday after a key U.S. manufacturing survey showed a surprise recovery, while the Australian dollar rose after the central bank left rates steady and retained the outlook despite bushfires at home and a virus epidemic in China.

The widening coronavirus outbreak in China kept markets on edge, however, while traders also eyed the U.S. state of Iowa, where Democrats began months-long process to choose a challenger to President Donald Trump.

The dollar index (=USD) held firm at 97.832, having risen 0.44% on Monday, the biggest gain so far this year.

That boost came after the Institute for Supply Management (ISM) reported that U.S. factory activity unexpectedly rebounded in January after contracting for five straight months amid a surge in new orders.

Against the yen, the dollar traded at 108.70 yen , after a gain of 0.3% on Monday, the biggest gain in a downtrend that started in mid-January.

The euro stood at $1.1057 (EUR=), having slipped 0.3% on Monday.

The Australian dollar rose 0.35% to $0.6714 , pulling away from a 10-1/2-year low of $0.6670 touched last October, after the Reserve Bank of Australia (RBA) kept its main cash rate at a record low of 0.75%.

It also retained forecasts for economic growth for this year and next at 2.75% and 3% respectively, despite the devastating bushfires at home and the threat to growth posed by China's rapidly spreading coronavirus.

Still, interest rate futures <0#YIB:> are fully pricing in one rate cut by May, with the coronavirus adding to the headwinds to the Chinese economy - Australia's major export market.

The death toll in China rose to 425 as of the end of Monday, with infections now at more than 20,000.

The RBA said it was too early to determine how long-lasting the impact from the virus will be.

"The question is how long it will take to contain the epidemic. While some people are selling risk assets, there are also lots of people who are looking for a chance for bargain-hunting," said Ayako Sera, market economist at Sumitomo Mitsui Trust Bank.

"If we start to see a decline in the number of new cases, then we could see an end. But at the moment, it is hard to say when that will happen."

The offshore yuan gained 0.1% to 7.0022 yuan per dollar , in line with rebounds in Chinese shares and holding above its one-month low of 7.0230 per dollar hit in European trade on Monday.

"On the whole, the epidemic is not necessarily negative for the yuan's demand-supply balance," said Ei Kaku, currency strategist at Nomura.

"A bulk of China's service account deficit comes from Chinese travel spending overseas, and that looks set to shrink for now. We also saw inflows of funds to Chinese stocks yesterday, so no sign yet of capital flight either."

Elsewhere, sterling was soft at $1.2999 , having lost 1.54% on Monday on renewed worries about Britain's relations with the European Union.

Prime Minister Boris Johnson set out tough terms for Brexit talks with the European Union, rekindling fears Britain would reach the end of an 11-month transition period without agreeing a trade deal.

Traders are also casting an eye on the U.S. state of Iowa, where Democrats are kicking off a process to choose a challenger to President Trump.

Market players say a victory by a progressive candidate such Senator Bernie Sanders and Elizabeth Warren could hurt shares and lift safe-haven currencies as some of their policies are thought to be not in best interests of Wall Street.