Dollar slips, geopolitical escalation risks seen limited before midterms

By Stefano Rebaudo

Oct 13 (Reuters) - The dollar slipped from 18-month highs on Tuesday in line with a retreat in oil prices as investors shifted focus to the Federal Reserve's rate path, betting Middle East tensions would remain contained ahead of US midterm elections.

The prevailing market view is that US President Donald Trump will seek to avoid any escalation in the wars in the Middle East and Ukraine, which could dent his prospects ahead of the midterm elections.

Trump said last week the US will not attack Iran before the elections, and mentioned an energy ceasefire between Russia and Ukraine on Sunday. 

Oil prices fell on Tuesday and were on track for their first decline in nearly a week as traders weighed the prospect of additional diesel supplies from Russia. 

Wednesday's September consumer price index reading should provide further clues about possible Fed tightening.

Traders are pricing in an 80% chance of the Fed standing pat this month, up from 51% a month earlier, but also 75 basis points of tightening by late 2027, the CME FedWatch tool showed.

“While markets would react to a hawkish surprise, one CPI release may not be enough to undo a pause narrative that senior officials have seemed keen to establish,” Daragh Maher, senior forex strategist at HSBC, said.

“The Fed has repeatedly emphasised that policy is driven by the totality of the evidence rather than a single data point,” he added, arguing that a modest upside surprise in inflation data may strengthen confidence in December's already-priced hike without changing October or the dollar materially.

Investors abandoned bets on a Fed rate hike later this month after two policymakers argued for gathering more evidence before deciding whether further tightening is needed.  

The US dollar index, a measure of the greenback's strength against a basket of six currencies, slid 0.25% to 102.29 after reaching 102.61 on Monday, its highest since April 2025.

Rising oil prices often support the dollar at the expense of energy-importing currencies such as the euro and yen.

EURO REBOUNDS DESPITE GAS PRICES HITTING FRESH HIGHS

The euro rebounded from a roughly 17‑month low on Tuesday despite another jump in gas prices, a key driver of euro zone inflation, while concerns over France's fiscal outlook persisted.

The single currency was up 0.34% at $1.1193 after hitting $1.11525 on Monday, its lowest since May 2025.

"The prospect for good news coming in the euro area is slim, and any further bad news would prompt the ECB to slow the pace of rate hikes, or end them altogether," Thierry Wizman, global forex and rates strategist at Macquarie Group, said, referring to France’s fiscal trajectory and the impact of the energy shock.

The ECB slowing the pace of rate hikes "would likely cause further euro/dollar downside", he added.

Natural gas prices reached €86.30, their highest level since December 2022. 

The yen strengthened 0.28% to 158.16 yen against the dollar after Bank of Japan data showed wholesale prices rose 6.8% in the year to September, missing a median market forecast of 7.6% but still enough to justify market fears of higher interest rates.

The Chinese yuan traded near its strongest in four years, holding steady against the dollar at 6.6943 yuan in offshore trade.

The Australian dollar was at $0.6968, little changed after the release of minutes from the Reserve Bank of Australia's September board meeting that voted unanimously to raise rates for the fourth time this year.

The central bank said it still sees risks that inflation could prove more stubborn than assumed, leaving the door open for a fifth hike this year if needed.

(Reporting by Stefano Rebaudo, additional reporting by Gregor Stuart Hunter; Editing by Clarence Fernandez and Jan Harvey)