By Kevin Buckland

TOKYO (Reuters) – The safe-haven yen gained versus the riskier Australian dollar on Friday as risk sentiment soured amid rekindled fears of heated inflation and aggressive Federal Reserve policy tightening.

The dollar took a breather from recent gains as a rally in U.S. Treasury yields stalled, but was still headed for its best week in two months against a basket of major peers.

The Aussie – often considered a liquid proxy for risk appetite – sank as much as 0.57% to 82.02 yen, its weakest level in a month, and was last down 0.32% at $0.72035.

The greenback slipped 0.15% to 113.915 yen, a one-week low.

Overnight, Wall Street suffered a sharp selloff in the final hours of trading, while Treasury yields retreated from multi-year highs. S&P 500 futures point to a further 0.5% retreat at the reopen.

The advance in U.S. yields has been driven by market expectations that the U.S. Federal reserve will tighten monetary policy at a faster pace than anticipated. Fed funds futures have fully priced in a rate increase in March and a total of four in 2022.

The Federal Open Market Committee (FOMC) convenes a two-day policy meeting starting Tuesday, at the conclusion of which market participants will closely parse the committee’s statement regarding the tightening timeline.

The dollar index – which measures the currency against six rivals – was 0.03% higher at 95.795 after touching a more than one-week high of 95.864 on Thursday. For the week, it is up 0.65%, rebounding from last week’s 0.61% slide.

The euro slipped 0.06% to $1.1303, matching Thursday’s low, which was its weakest level since Jan. 10.

Sterling lost 0.05% to $1.3586, nearing its lowest since Jan. 11.

Many analysts predict the dollar has further to rise as Fed tightening gets underway, despite recent volatility.

The currency “should continue to firm into next week’s FOMC,” strategists at Westpac wrote in a client note, saying they “wouldn’t be surprised” if the dollar index tops its 2021 high at 96.938.

“Admittedly, a lot is priced in now,” they wrote, “but a straight comparison of (the dollar index) vs yield spreads shows that the USD has not fully priced in this story.”

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