The US dollar rose on Tuesday as investors balanced cautious hopes for a Middle East peace agreement against concerns that the Federal Reserve may raise interest rates to contain inflation driven by higher energy prices.

US President Donald Trump said on Monday that there is now a very good chance of reaching an agreement to limit Irans nuclear program.

The dollar had surged in March after Irans effective closure of the Strait of Hormuz pushed oil prices sharply higher, hurting oil-dependent economies such as Japan and the eurozone while boosting demand for the US currency as a safe haven.

However, oil prices fell by 2% on Tuesday following Trumps remarks.

Paul Mackel, Global Head of FX Research at HSBC, said: There are reasons why the dollar has not returned to the levels seen in March.

He added: The main reasons are that global risk appetite has recovered strongly, stress in US dollar overnight indexed swap (OIS) markets has not reached levels consistent with pricing a strong Fed tightening cycle, and monthly global growth momentum remains positive.

At the same time, investors are now pricing in a roughly 48.5% probability of a Federal Reserve rate hike in December, alongside a 98.8% probability of rates remaining unchanged at the next June meeting, according to the CME FedWatch Tool.

Thierry Wizman, Global FX and Rates Strategist at Macquarie Group, said: Even if the Federal Reserve moves to signal a neutral stance in June, that may not be enough to stabilize inflation expectations and long-term US Treasury yields.

He added: There will be an opportunity for the Fed to shift its rhetoric more clearly toward monetary tightening through the upcoming series of speeches by central bank officials between now and June 6.

Major Currency Performance

The US dollar index, which measures the currency against a basket of six major currencies, rose by 0.2% to 99.18 points after ending a five-day winning streak on Monday as fears of escalating war eased.

The euro fell by 0.2% to $1.1633.

Japanese Yen Nears Intervention Zone

Against the Japanese yen, the US dollar rose by 0.15% to 159.10 yen after government data on Tuesday showed Japans economy expanded at an annualized pace of 2.1% in the first quarter, strengthening expectations for a Bank of Japan rate hike in June.

Japanese Finance Minister Satsuki Katayama told reporters on Monday that Japan is prepared to act against excessive foreign exchange volatility, stressing that any intervention to support the yen and sell dollars would be conducted in a way that does not push US Treasury yields higher.

Investors are watching closely for further signs of intervention to support the yen, which remains slightly stronger than levels seen before Japanese authorities carried out their first direct market intervention in nearly two years last month.

Other Currencies

The Australian dollar fell by 0.5% to $0.71345 following the release of minutes from the Reserve Bank of Australias May 5 meeting.

The New Zealand dollar also declined by 0.4% to $0.5854, pressured by movements in the Australian currency.

Against the Chinese yuan, the US dollar rose by 0.1% to 6.8031 yuan in offshore trading.