FOREX-Dollar sluggish with market on edge, Fed hike bets trimmed

By Gregor Stuart Hunter

SINGAPORE, March 26 (Reuters) - The dollar eased off recent gains in Asian trading on Thursday as investors sought clarity about whether a de-escalation in the U.S.-Israeli war on Iran was imminent and trimmed bets that the Federal Reserve's next move would be a hike.

With geopolitical uncertainty still elevated, the U.S. dollar index =USD, which measures the greenback's strength against a basket of six currencies, edged down 0.1% to 99.576 on Thursday after logging its biggest one-day gain in a week during the previous session.

Iran's foreign minister on Wednesday said the country is reviewing a U.S. proposal to end the war but it has no intention to hold talks to end the widening Middle East conflict, leaving stocks struggling for direction in the Asian trading session on Thursday.

"Markets remain decisively headline-driven, with a square focus on weighing up whether recent news marks a genuine de-escalation attempt, or a precursor to a new kinetic equilibrium," analysts from Westpac wrote in a research report.

After the closure of the Strait of Hormuz caused energy prices to spike, traders are questioning earlier inflation expectations and growing more confident that the Fed will keep policy settings on hold throughout the year.

Fed funds futures are pricing an implied 64.4% probability that the U.S. central bank will remain on hold at its meeting in December, compared with a 60.2% chance a day earlier, according to the CME Group's FedWatch tool.

"Lots of people have retreated to the sidelines," said Mike Houlahan, director at Electus Financial in Auckland. "If there's some sort of deal, ceasefire or truce and the price of oil plunges, the inflation premium that's currently ramped into rates is gone in 48 hours."

"The rates market is reacting to the previous crisis," when central banks were caught off guard by a jump in inflation after the COVID-19 pandemic as government spending surged, he added.

Federal Reserve Governor Stephen Miran, who since being appointed by U.S. President Donald Trump last year has repeatedly echoed his calls for the Fed to cut rates, on Wednesday said central banks should look beyond the oil shock and that the Fed's policy settings are holding the economy back.

Against the yen JPY=, the U.S. dollar edged down 0.1% to 159.39 yen, with the greenback near its strongest levels since 2024, as the yield on the two-year Japanese government bond hit the highest level in almost three decades.

Markets are pricing in a 61.9% possibility of a quarter-point rate hike to 1% at the Bank of Japan's next meeting on April 28, according to LSEG data.

The euro EUR= was up 0.1% at $1.1570, stabilising after two days of declines following comments from European Central Bank President Christine Lagarde on Wednesday that opened the door to raising interest rates in the euro zone if war in the Middle East pushes up inflation for some time.

"After initially sending the dollar up and the euro down, we are now in a standoff, waiting to see what happens next," analysts from Societe Generale wrote in a research report. "If we were to end up with the ECB hiking rates while the Fed sat back and watched, a euro bounce isn’t inconceivable."

Against the Chinese yuan CNH=, the U.S. dollar was flat at 6.905 yuan in offshore trading after Trump said he will meet Chinese President Xi Jinping on May 14 and 15 following a delay due to the Iran war.

The Australian dollar AUD= was flat at $0.6950, while the New Zealand dollar NZD= was steady at $0.5806.

The British pound GBP= was unchanged at $1.3365, attempting to avert its third consecutive down day after data released on Wednesday showed consumer price inflation held at 3.0% in February, unchanged from January's figure but still above target.

In cryptocurrencies, bitcoin BTC= was down 0.2% to $70,815.26 and ether ETH= slipped 0.7% to $2,150.80.