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Dollar Retreats but Remains Near 5-1/2 Month High Amid Fed and Middle East Concerns

The dollar experienced a slight retreat on Wednesday but remained close to its 5-1/2 month high, exerting pressure on the yen, which hovered near 34-year lows. This movement came as Federal Reserve officials reiterated expectations for higher interest rates to persist.

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Key figures within the U.S. Federal Reserve, including Chair Jerome Powell, refrained from providing guidance on potential interest rate cuts during Tuesday’s remarks. Instead, they emphasized the need for monetary policy to remain restrictive for an extended period. The divergence between recent data suggesting a different economic trajectory than previously forecasted by the Fed led investors to adjust their expectations for future rate cuts. Additionally, escalating tensions in the Middle East contributed to the dollar’s appeal as a safe-haven asset.

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Analysts maintained a bullish outlook on the greenback at its current levels, anticipating potential benefits from safe-haven flows in the event of further escalation in the Middle East crisis.

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The U.S. and its allies prepared to impose fresh sanctions on Iran following its attack on Israel, prompting concerns about a broader conflict in the region. Bank of America revised its prediction for Fed monetary easing, delaying expectations to start in December instead of June, which could further strengthen the dollar if markets price out Fed cuts for the year.

Against the euro, the dollar saw a slight decline on Wednesday, trading at $1.0628, not far from its recent 5-1/2 month high. The dollar index, measuring its value against a basket of currencies, hovered just below its five-month peak, reflecting a 4.8% increase for the year.

Market sentiment suggested a possibility of a hawkish repricing of the Fed’s policy path in the coming weeks, potentially pressuring EUR/USD below 1.05. Traders now anticipated a total of 40 basis points of cuts in 2024, significantly lower than the 160 bps of easing initially priced in at the beginning of the year.

Meanwhile, concerns persisted about the yen, which remained close to its weakest level in 34 years against the dollar. Market participants raised speculation about possible intervention by the Bank of Japan to support the Japanese currency, especially as hedge funds built up their largest bet against the yen in 17 years.

The dollar’s strength had ripple effects across currency markets, with emerging markets in Asia taking measures to stabilize their currencies amid dwindling expectations for rate cuts in the region.

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