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* Attention back on monetary policy outlook for Europe, U.S.
* Yen, Swiss franc weaken
* U.S. yields rise on Fed rate hike expectations
By Gertrude Chavez-Dreyfuss
NEW YORK, May 9 (Reuters) - The dollar surged to nearly two-month highs against the yen on Tuesday as risk appetite improved following the French election and investors focused on monetary policy and potential upcoming Federal Reserve interest rate hikes.
U.S. benchmark 10-year Treasury yields hit five-week highs, with rate futures pricing in close to a 90 percent chance of an interest rate increase next month. Yields on U.S. two-year notes, the tenor most sensitive to rate hike expectations, also advanced on Tuesday, climbing to eight-week peaks.
The dollar index, tracking the greenback’s value against six major currencies, rose to a three-week high, in line with the gains in yields.
“While the U.S. economy saw a marked deceleration in the first quarter, the overall outlook remains solid and the Fed is still widely expected to raise U.S. lending rates in June and likely again in September,” said Omer Esiner, chief market analyst, at Commonwealth Foreign Exchange in Washington.
The interest rate premium investors receive for holding dollar 10-year government bonds instead of their yen equivalents rose to its highest since the end of March overnight.
In late morning trading, the dollar was up 0.7 percent against the yen at 114.08 yen , after earlier hitting its highest level since mid-March. The euro also rose against the yen, up 0.5 percent at 124.27 yen.
The Swiss franc, another currency with firmly negative interest rates as well as a central bank actively seeking to weaken it with market intervention, fell to its lowest against the euro since mid-October. It was down just over 2 percent against the euro over the last two weeks, compared to an almost 3 percent fall in the dollar.
The euro was last up 0.4 percent at 1.0949 francs, while the dollar rose 0.6 percent to 1.0051 francs.
Market measures of volatility for euro-dollar rates have hit their lowest in three years in the past week and Deutsche Bank strategist Oliver Harvey warned in a note on Tuesday of the risks of a turn in that trend.
“One of the main themes this year has been the fall in vol ... but there are increasing signs a turning point is close,” he said, pointing to the risks of downbeat signals on global growth and the chances of the Fed outpacing expectations on future policy moves.
The euro dipped back below $1.09, down 0.3 percent, falling from six-month highs hit after Emmanuel Macron’s victory in the French presidential election on Sunday.
Reporting by Gertrude Chavez-Dreyfuss; Additional reporting by Patrick Graham in London; Editing by Meredith Mazzilli