Dollar rally pauses as market sentiment turns a little more upbeat

The dollar halted its blistering rally on Thursday, March 5, 2026, providing some reprieve to the battered euro as investors clung to fragile assumptions that the war in the Middle East might not last as long as initially expected, with markets reacting positively to reports suggesting potential diplomatic solutions. The dollar eased from an over three-month high and stood at 98.82 against a basket of currencies, while the euro stabilized at $1.1628 after sliding to a more than three-month low earlier in the week. Investors found comfort in conflicting reports about Iran's stance, with initial reports suggesting Iranian intelligence operatives were open to talks with the CIA to end the war, followed by a denial from Tehran that underscored the fragile sentiment towards the conflict. Additionally, hopes were raised for a resumption of oil shipments through the Strait of Hormuz after an insurance broker revealed it met with U.S. officials to explore restoring maritime trade in the region. The improved market sentiment was further supported by upbeat U.S. economic data showing services sector activity surged to more than a 3-1/2-year high in February, according to Carol Kong, a currency strategist at Commonwealth Bank of Australia. However, she cautioned that the positive reaction might be premature given Iran's denial and the ongoing uncertainty about the conflict's duration. Despite the pause, the dollar maintained its weekly gain of over 1%, emerging as one of the few winners in a volatile period that has negatively impacted stocks, bonds, and precious metals. The spike in energy prices from the Middle East conflict has stoked inflation concerns, leading markets to adjust expectations for central bank policies. Bas van Geffen, senior macro strategist at Rabobank, noted that markets are trading the war primarily as an inflation risk, with implications for rate decisions by major central banks including the Federal Reserve, Bank of England, and European Central Bank. Other currencies showed mixed performance, with the yen rising 0.2% to 156.79 per dollar, supported by the weaker greenback. The Australian dollar held onto its recent gains at $0.7068, while the New Zealand dollar slightly eased to $0.5939. The Australian dollar has experienced significant volatility this week, acting as a proxy for risk sentiment while occasionally benefiting from safe-haven flows due to the country's energy resources. In China, policymakers set the 2026 economic growth target at 4.5% to 5%, a slight downgrade from the previous year's 5% pace, which suggests room for efforts to curb industrial overcapacity. The yuan strengthened to 6.8862 per dollar in onshore trade, with China also setting the official yuan midpoint to its strongest level in 34 months in what traders interpreted as an attempt to stabilize the currency. Cryptocurrencies also reacted to the improved risk appetite, with Bitcoin and ether each falling close to 1% after rallying strongly overnight as market sentiment improved.