The U.S. dollar fell on Friday, struggling for support as a rapid rise in U.S. bond yields ebbed, while Asian stocks clawed higher after two days of declines.
Benchmark 10-year U.S. Treasury yields held at 3.44 percent in Asia and futures rose after a push overnight toward a seven-month high close to 3.6 percent enticed bond buyers back into the market, confounding investors hoping for a trend to cling to in the final weeks of 2010.
December's reduced trading volumes and holidays typically cause whippy price action and make big bets difficult to hold for long.
Still, stocks in advanced markets were poised to keep a year-end rally going, even though Japanese equities unofficially closed marginally lower.
The Nikkei share average <.N225> edged down 0.1 percent but was still up 10 percent in the final quarter of the year. It was on course for its biggest quarterly rise since the June quarter of 2009, lifted by foreign investors hovering up cheap shares.
Japan's gains have contributed to the 6.7 percent rise of the MSCI all-country world index <.MIWD00000PUS>, which exceeded the 3.8 percent advance of the emerging markets index.
Year-to-date, the U.S. S&P 500 index is up 11.5 percent <.SPX> compared with 11.9 percent for the MSCI Asia-Pacific ex-Japan index and 8.7 percent for the MSCI world index.
If the S&P were to end the year outperforming the MSCI Asia ex-Japan index, it would be first time that that had happened in a non-crisis year since 2000.
REVERSAL OF FORTUNE
The outperformance of developed markets has been a reversal of a trend in place for most of the year: the fundamental strength of emerging markets drawing money from advanced economies.
That is not to say the outlook for emerging markets, particularly in Asia, is anything but bright.
Loose monetary policy in the U.S., debt concerns in Europe and strong growth in Asia coupled with rising inflationary pressures should maintain the status quo of Asian currency strength in 2011, Commerzbank analysts said in a note.
For now though clear signs of improvement in the U.S. economic outlook have taken some gloss off of developing markets.
After two days of falls, the MSCI index of Asia Pacific stocks outside Japan rose 0.4 percent <.MIAPJ0000PUS> on Friday, with gains evenly spread across the sectors.
Momentum-driven investors helped South Korean and Taiwanese stocks lead the small regional gains, with benchmark indexes climbing 0.8 percent <.KS11> and 0.6 percent <.TWII>, respectively.
Ten-year U.S. Treasury futures expiring in March 2011 were up 10/32 after a late session rally overnight in the cash market.
The 10-year yield of 3.44 percent was unchanged from late New York, but down from a 7-month high of 3.57 percent reached on Thursday.
Strategists generally have a negative view on government bonds in 2011 and expect the asset class to underperform based on increased investor appetite for risk and fading deflation fears.
Adding to that view, the world's biggest bond fund, PIMCO Total Return Fund, may start investing up to 10 percent of its assets in equity-related securities.
The U.S. Congress passed a bill extending $858 billion of tax cuts, sending it to President Barack Obama for final signing.
The bill introduced last week sparked upward revisions of both U.S. growth estimates and budget deficit forecasts, triggering the sharp rout in U.S. Treasuries.
The U.S. dollar index, a measure of performance against six other currencies, slipped 0.3 percent. Despite a 63 basis point rise in 10-year Treasury yields during December, the dollar index is down 1.6 percent this month.
The euro was up 0.4 percent to $1.3293 on market talk of interest among Asian central banks to buy the currency. The euro probably needed to break above the high on December 15 of $1.3380 to confirm a small uptrend is underway in the broad $1.3165 to $1.3500 range.
Citi, one of the biggest private participants in the foreign exchange market, recommended betting tactically on the dollar versus the euro based on risks surrounding an Irish election early next year.
European policymakers have proved as adept at snatching victory out of the jaws of defeat, as they are at snatching defeat out of the jaws of victory, Steven Englander, global head of G10 FX strategy for Citi in New York, said in a note.
The lack of liquidity as year end approaches and the difficulties in coming up with comprehensive solutions on the sovereign debt make us prefer euro short to long for the time being.
(Additional reporting by IFR Markets)