The dollar slid against the yen on Wednesday as investors reversed some of their hefty short positions in the Japanese currency after being rattled by a knocked-down rumour of conflict between the United States and Iran.
With market players also worried about a diplomatic stand-off between Britain and Iran over captured UK sailors, they moved to unwind carry trades in which the low-yielding yen is used to fund purchases of higher-yielding currencies. Both the Australian and New Zealand dollars fell about 1 percent against the yen at one point.
"The mounting risk is starting to kick into this price action," said Noriyuki Kato, treasury department manager at State Street Global Markets in Tokyo. "This could be another wave of risk reduction. It happened before, and it looks like it will be happening again."
The US Navy said it had no information to substantiate the market rumour that Iran had fired at a US naval vessel in the Gulf, which drove oil prices up sharply to a six-month high of $68.09. The White House issued a denial.
Some market players also rushed to buy back the yen after being disappointed that sizeable buying of foreign currencies by Japanese investment trusts at the month end failed to materialise as expected. The dollar fell 0.6 percent to 117.14 yen, pulling back from a peak around 118.00 yen struck earlier in the session.
Against the safe-haven Swiss franc, the dollar dipped only slightly to 1.2103 francs. Gold was steady near $664.50. But Asian equity markets suffered, with the Nikkei share average dropping 1 percent.
The dollar was already hurting after softer-than-expected US consumer confidence data and lingering worries about a slowing housing market stirred expectations of Federal Reserve interest rate cuts.
Market players were eagerly awaiting comments from Fed Chairman Ben Bernanke before Congress on the economic outlook at 1430 GMT after the central bank dropped its reference to possibly raising rates further at a policy meeting last week.
The euro fell 0.6 percent against the yen to 156.40 yen but held firm against the dollar around $1.3350. The single European currency jumped on Tuesday as a strong German business confidence survey reinforced expectations that euro zone interest rates are headed higher.
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