Does Fiora Peerless' ability activate when the Challenge spell is used?

No, Fiora, Peerless's ability does not activate when the spell Challenge is used.

Reasoning

According to RiftJudge FAQ #1102, #1231, and #11178, Fiora, Peerless's ability is a triggered ability that specifically activates "When I attack or defend." In the rules of Riftbound, "attacking" and "defending" are specific designations assigned to units participating in a Showdown (combat) at a battlefield (Rule 459.2.b).

• Fiora's Ability: Requires her to be formally designated as an "attacker" or "defender" during the initiation of a Showdown.
• Challenge: This spell instructs two units to deal damage to each other. It is an effect of a spell; it does not assign the "Attacker" or "Defender" designations, nor does it initiate a Showdown/combat phase.

Since the Challenge spell does not cause Fiora to be designated as an attacker or defender, her trigger condition is never met. Therefore, her ability does not activate.

Note: This interpretation is based on the mechanics of triggered abilities (Rule 383) and the definitions of combat/designations (Rule 459). I could not fully verify this ruling against the retrieved rules, as the specific text for the Challenge spell was not available.