Asian stocks weather bond storm

On Friday, Asian stocks remained resilient despite a wave of bond sell-offs that drove US yields to two-decade highs, raising global borrowing costs and posing a threat to soaring equity valuations. The rise of oil prices above $100 a barrel, with Brent crude near $105, reignited concerns about inflation, strengthening expectations of multiple Federal Reserve rate hikes following the first increase in over three years. This, in turn, pushed the US dollar up by approximately 1% over the week.

Chinese President Xi Jinping was in Washington for talks with US President Donald Trump, though no significant breakthroughs were evident on contentious matters such as AI, trade, Taiwan, or the conflict with Iran. MSCI's broadest index of Asia-Pacific shares outside Japan was stagnant, with most markets, including mainland China, Taiwan, and South Korea, closed for a holiday. Japan's Nikkei index climbed 1%, while Australia's resources-heavy shares slipped 0.6%. Hong Kong's Hang Seng index dropped 1%.

Risk assets faced mounting pressure due to a sharp decline in global bond markets, driven by inflation concerns and fiscal strains. Nigel Green, CEO of deVere Group, a financial advisory firm, warned that ignoring this trend could lead to severe consequences. He added that once risk-free rates exceed 5% in the world's largest economy, every asset on the planet must justify its price against this benchmark.

The benchmark 10-year Treasury yield rose by 1 basis point to 5.1915%, having surged 20 basis points in just two days to a 19-year peak of 5.2251%. This marked the largest two-day gain since April of the previous year, when Trump's tariffs on Chinese goods unsettled markets. Thirty-year US bond yields increased by 2 basis points to 5.4805%, having jumped 16 basis points in the past two days to reach 5.5016%, the highest level since 2004.

This rise in yields led to a 7% increase in US mortgage rates, putting pressure on the housing market.

Asian bonds mirrored the global sell-off, with Japan's 10-year government bond yields up by 4 basis points to 3.115%, the highest since 1996, and Australia's 10-year government bond yields also rising by 4 basis points to 5.408%. The Federal Reserve's cycle of rate hikes has now reached Scandinavia, with no respite at the short end of the Treasury curve.

Fed funds futures now suggest a 71% probability of further rate hikes next month, up from around 53% earlier in the week, and over 90 basis points of additional tightening still anticipated this cycle, roughly equivalent to nearly four quarter-point hikes. The US 2-year yields held steady at 4.9035%, having jumped 16 basis points this week to hover near a two-year high.

The Fed's return to rate hikes last week has sent ripples through global markets. As inflation pressures mount, smaller central banks are adopting a more hawkish stance. Norway's Norges Bank raised rates on Thursday, and Sweden's Riksbank indicated it was likely to follow suit by the end of the year. Mexico's central bank, Banxico, held rates steady but signaled that a prolonged pause was unlikely.

This consolidation of global interest rates is keeping the US dollar strong, rising 1% over the week to 101.25 against its major counterparts, the highest level since late July. In the commodities market, Brent crude retreated 0.8% to $105.75 a barrel, following a 3% surge overnight as a Houthi missile strike on Saudi Arabia revived fears of supply disruptions.

Meanwhile, markets are holding onto hopeful signs of a potential truce between the US and Iran, with reports suggesting both countries are discussing a phased approach to reopen the Strait of Hormuz.