(Reuters) - The euro slipped on Tuesday, relinquishing early gains as investors worried about how Greece will repay its debts even if it passes austerity measures this week.
The common currency slipped 0.2 percent to $1.4260, unable to maintain an early rally to $1.4330 as traders cited selling by model funds, along with European and U.S. corporates in choppy trade.
Greek parliamentary votes on austerity measures expected on Wednesday and Thursday remained the focus for investors. Market participants expect the measures will be approved, which may offer the euro a short-term boost.
However, the possibility that the plan may be rejected has kept the price of options to sell the euro elevated, and analysts see the possibility of a fall below the psychological support level of $1.40 if this happens.
Some added that even if Athens passes the austerity measures and secures more bailout funds, more funding will be needed down the line, keeping alive the threat of an eventual default. This would keep the euro weak in the mid-term, they said.
"It is going to be very, very tight and we are getting more and more bearish of the euro given there are larger issues at stake here apart from the Greek austerity vote," said Neal Mellor, currency strategist at Bank of New York Mellon.
"The question that is in the markets' mind is 'Will an EU debt rollover plan be enough to salvage Greece?' The focus will turn to data and if there are no signs of growth, the political will to do more on Greece will be very thin."
There were signs that progress had been made in involving the private sector in an eventual Greek rescue plan, while European Union officials were also working on a 'Plan B' if Athens were to reject all or part of the austerity package, sources told Reuters on Monday.
Without approval for the austerity measures, the European Union and International Monetary Fund say they will not disburse the fifth tranche of Greece's 110 billion euro bailout program. Athens needs the aid to pay its bills next month.
EUR/USD IMPLIED VOL STAYS HIGH
The euro hit a session low of $1.4247, but bids suspected from Asian sovereign names around $1.4255 stemmed a further big fall.
Euro sentiment remained sluggish as the cost of insuring Greek debt against default rose, along with yields on short-dated government bond yields.
The euro has tumbled from around $1.47 hit earlier in the month, but it has managed to tread above $1.40 on the belief that Greece will secure the latest round of funding.
Even if Athens passes it cost-cutting plan, demand for euro puts, the option to sell the currency, remains high, and volatility is expected to crank higher if it falls more.
"I think the measures will be passed. Most people do, but euro puts are expensive on the off chance that they don't go through," said a trader in London.
One-month implied euro/dollar volatility traded around 13.3 percent. It hovered near 13.7 percent hit on Monday, its highest levels of the year.
One-month 25-delta euro/dollar risk reversals, which measure the skew between euro puts and calls -- the option to buy a currency -- rose to 3.0 in favor of puts, near a one-year high of 3.1 hit earlier this month.
"A lower EUR/USD would revive the vol levels we saw yesterday. Risk reversals are still flirting with the -3.0 level, reflecting that the recent massive flows on low strikes are not being unwound," options analysts at Societe Generale said in a note.
The dollar index .DXY was flat at 75.396, back below a downward trendline drawn off peaks hit in June 2010 and January 2011 that now lies near 75.55.
The dollar dipped 0.1 percent against the yen to 80.81 yen. Stiff technical resistance near 81 yen as well as dollar-selling by Japanese exporters, helped weigh on the dollar, market players said.
Sterling hit a 13-month low versus a currency basket, dragged down by weakness versus the euro as the pound struggles expectations that interest rates will remain low this year.
