The U.S. dollar is poised for its strongest weekly showing in four months, driven by traders scaling back expectations for Federal Reserve interest rate cuts and heightened geopolitical risks boosting the dollar's safe-haven appeal. The Bloomberg Dollar Spot Index has climbed 0.9% this week, on track for its largest weekly gain since last October. Growing inflation concerns and recent U.S. economic data have cast a shadow over the market's outlook for Fed monetary easing this year, thereby strengthening the dollar. Continued U.S. military deployments to the Persian Gulf have further enhanced the currency's attractiveness, as the dollar is a popular safe haven during periods of uncertainty.

**Market Focus and Currency Performance** Richard Cochinos, a foreign exchange strategist at RBC Capital Markets, stated, "Markets are shifting towards a higher probability of a U.S.-Iran conflict. Upward pressure on oil prices makes it difficult for the euro and the yen to be viewed as safe-haven assets, so the dollar is filling that gap." This week, the Japanese yen has fallen 1.8% against the dollar, nearing 155.50 yen per dollar. The euro has declined 1% over the same period, to 1.1750 dollars per euro. A shift in sentiment is also evident in the options market, where short-term positioning shows bullishness towards the dollar reaching its highest level since November.

**Context of Recent Dollar Movements** In recent months, the dollar had been under pressure. Other major central banks held rates steady or hinted at hikes, while markets anticipated further Fed rate cuts—a view reinforced by the nomination of a new Fed Chair. Uncertainty surrounding U.S. trade policy also weighed on the dollar, contributing to its significant decline last year.

**Cautious Fed Stance** However, the latest Fed meeting minutes revealed that officials expressed unexpectedly cautious views on cutting rates last month, with several suggesting that the Fed might ultimately need to raise borrowing costs if high inflation persists. Later in the week, a series of economic data releases, including a significant drop in jobless claims, further weakened the argument for aggressive rate cuts. Traders now price in approximately 58 basis points of rate reductions for the year, down from expectations of 63 basis points at the end of last week. Chris Turner, Head of FX Strategy at ING, wrote, "Market focus will now shift from the labor market to inflation data."

Continued strength in U.S. economic data could force investors holding short positions against the dollar to cover their bets, adding further momentum to the dollar's rally. Data from the Commodity Futures Trading Commission showed speculators increased their net short positions on the dollar last week, reaching the most bearish stance since June. The latest CFTC report is due Friday. The U.S. will also release December Personal Consumption Expenditures data and fourth-quarter GDP figures on Friday. Jane Foley, Head of FX Strategy at Rabobank, commented, "The dollar's strength this week reflects an improved market view of the U.S. economic outlook. While the market may not be inclined to build large long positions in the dollar, we see potential for further short-covering if U.S. data continues to surprise to the upside."

Nevertheless, a significant number of dollar bears believe the currency's downtrend is not over. Nathan Thooft, Senior Portfolio Manager at Manulife Investment Management, suggested that while "the Iran issue is certainly the bigger theme right now," the dollar could weaken further over the long term. "We still believe the dollar is in a long-term downward trend," he said, "but there will certainly be phases of dollar strength in the short term."