Asian stocks set for weekly gain on fading US rate hike wagers

Asian stocks experienced a surge on Friday, setting the stage for their strongest weekly performance in two months, according to Reuters. The rally was driven by reassuring inflation data, which diminished expectations of an imminent U.S. rate hike. Despite faltering talks aimed at resolving the Middle East conflict, risk sentiment remained cautious.

Brent futures stabilized at $87.03 per barrel, after an earlier decline, marking a 4% weekly increase after a two-week decline. This marked a break from the two-week losing streak in oil prices. The U.S. inflation reports this week revealed that price pressures remained under control, reducing the likelihood of a rate increase from the Federal Reserve in the upcoming month.

Charu Chanana, chief investment strategist at Saxo, stated that risk appetite can persist for now, as the immediate Fed hike risk has been recalibrated downward due to softer oil prices. However, Chanana cautioned that without clarity on the Middle East situation, another spike in oil prices could quickly reignite inflation and Fed concerns.

Among the Asia-Pacific indices, MSCI's comprehensive index of shares outside Japan rose by 0.28%, pointing towards a 2.7% weekly gain, which was its best performance since mid-June. Japan's Nikkei also showed a 1.5% increase, on track for an over 5% weekly gain. Market analysts observed a peculiar phenomenon in recent months – a growing disconnect between geopolitical uncertainty and asset price volatility.

John Sidawi, senior portfolio manager for fixed income at Federated Hermes, noted that markets are currently accommodating a significant amount of uncertainty without requiring higher risk premiums. However, this equilibrium is likely to be temporary, as a significant escalation in conflict or a clear resolution path could dislodge investors from their sidelines, resulting in a market volatility that current pricing may not fully anticipate.

The Japanese yen reached 159.40 per U.S. dollar, nearing the critical 160 level that traders anticipate could trigger another round of yen buying from Tokyo. This came after a failed joint intervention with the U.S. at the end of July. Traders are now more open to the possibility of the Bank of Japan starting to support the yen, with expectations of a rate hike next month.

However, the risk now is that investors might be disappointed if the BOJ is not deemed sufficiently hawkish during the September meeting. Padhraic Garvey, head of global rates and debt strategy at ING, attributed the yen's weakness to Tokyo's overly cautious stance and a policy rate that is still too low. Garvey suggested that rate hikes could alleviate the tension, but the sooner the better.

While this might have negative implications for the economy, it could also be a deliberate choice – to protect the yen or not. In commodities, gold saw a 0.8% drop to $4,313 per ounce as traders cashed in profits following its high since early June. This was attributed to diminishing expectations of an imminent rate hike. Currently, the probability of the Fed raising rates next month stands at 35%, down from 55% the previous week, based on the CME FedWatch tool.

This shift led to a rally in U.S. Treasuries, although a lackluster 30-year bond auction dampened the sentiment.