The euro hovered near a two-month high against the dollar on Monday, rebounding from lows hit after a downgrade of Ireland's sovereign ratings, as investors awaited results of European banks' stress tests.

Traders said semi-official demand was helping to push the rate back above $1.2900, while a large buy order from the Middle East, executed through a major U.S. bank in London, had lifted euro/dollar to a session high of $1.2991.

The euro earlier come under pressure after Moody's Investors Service downgraded Ireland's sovereign bond rating to Aa2, with a stable outlook, from Aa1.

The euro initially reacted to that but quickly realized that this is not a game-changer, said Matthew Strauss, senior currency strategist at RBC Capital Markets in Toronto. Overall, the market is still looking for direction after last week's strong move in the euro.

The International Monetary Fund and the European Union's suspension on Saturday of a review of Hungary's funding program also had put pressure on the single currency.

In early New York trading, the euro was trading up 0.2 percent versus the dollar EUR= at $1.2954, steadying off a session low of $1.2872, according to Reuters data.

Traders highlighted option expirations in the euro at $1.2970 and $1.3000, potentially hampering the currency until the options rolled off at 10 a.m. (1400 GMT).

Technical analysts saw near-term support at around $1.2850, the 50-percent retracement of the euro's fall from a high near $1.3820 in March to a four-year low of $1.1876 in early June.

Traders awaited the release of U.S. NAHB/Wells Fargo Housing Market Index, due at 10:00 a.m. (1400 GMT) A disappointing reading could weigh on the dollar, which has been sensitive to economic data lately as concern about the U.S. economy grows.

STRESS TESTS

Some analysts said a recent rebound in the euro, which hit a two-month high of $1.3008 on electronic trading platform EBS on Friday, may have been overdone.

The euro's recent strength has been exaggerated by positions, as people scale back from extremely short (euro) positions, said Raghav Subbarao, currency strategist at Barclays Capital. As people square positions, we don't see much further upside from here.

The latest data from the Commodity Futures Trading Commission showed speculators have been increasing long positions in the yen and cutting longs in the dollar, especially against the euro and pound.

Market players also awaited the results of stress tests on 91 European banks due on Friday.

We expect the stress test to be well received, but its main effect on the euro will be to reduce the probability of a large downside move, Subbarao said.

Greece's central bank chief said he expected the country's lenders to smoothly pass European Union stress tests.

Against the yen, the euro was up 0.7 percent EURJPY=R at 112.66. Traders said the cross yen pair was attempting to climb back into its daily Ichimoku cloud for the third straight day, but was so far capped by Japanese offers placed ahead of the cloud base at 113.14 yen.

It has not managed to close within the cloud since early May. The cloud top is some way off, coming in at 117.97 yen.

The dollar was up 0.5 percent versus the yen at 86.98 yen JPY=, bouncing back from a seven-month low of 86.27 yen hit on Friday on EBS. (Additional reporting by Tamawa Desai in London; Editing by Padraic Cassidy)

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