The US dollar edged lower on Tuesday but remained close to its highest level in 13 months as investors awaited the release of US inflation data and Federal Reserve Chair Kevin Warsh's testimony before Congress. Ongoing tensions in the Middle East and higher oil prices have reinforced expectations that monetary policy will remain restrictive.
The United States and Iran exchanged military strikes in the Gulf, while shipping through the Strait of Hormuz came close to a standstill. The disruption pushed oil prices toward $90 a barrel and strengthened expectations that global interest rates could remain higher this year.
Fiona Cincotta, market analyst at City Index, said that persistently elevated core inflation combined with rising oil prices continues to support the US dollar. She added that markets will closely watch Warsh's testimony, as he has generally preferred not to provide explicit guidance on the future path of monetary policy.
Warsh recently warned that anyone expecting the Federal Reserve to become complacent in its fight against inflation "will be disappointed," though he stopped short of signaling the likely direction of upcoming interest rate decisions.
Markets await inflation data
Market pricing currently implies roughly a 20% probability of a Federal Reserve rate hike at the July meeting. That expectation has pushed the yield on the benchmark 10-year US Treasury note above 4.6%, its highest level since May, providing additional support for the dollar.
Federal Reserve Governor Christopher Waller also said interest rates may need to move higher "in the near term" if incoming data shows inflation remains above the central bank's 2% target.
Economists surveyed by Reuters expect annual US inflation to reach 3.8% in June, while core inflation, which excludes food and energy prices, is forecast at 2.8%.
Currency movements
The euro rose 0.2% to $1.1399, while sterling gained 0.2% to $1.337.
Short-term volatility in currency markets also increased, with the one-day implied volatility index for the euro climbing above 10%, signaling stronger demand for protection against sharp exchange-rate swings.
Yen remains under pressure
The Japanese yen rose 0.1% to 162.27 per dollar but remained close to its weakest level in 40 years, keeping markets alert to the possibility of intervention by Japanese authorities to support the currency.
The move followed comments from Japanese Finance Minister Satsuki Katayama, who said the government may consider adjusting the asset allocation of state pension funds if investment conditions change significantly.
Health Minister Kenichiro Ueno also said the government would review the asset allocation of the Government Pension Investment Fund if necessary, although he ruled out any immediate changes.
Masafumi Yamamoto, Chief Currency Strategist at Mizuho Securities, said any sustained support for the yen would require a swift decision to increase the share of domestic assets in the pension fund's portfolio by at least five percentage points for both equities and bonds. He warned that only limited or gradual adjustments would have little impact on the Japanese currency.