Asian stocks rose to their highest levels in nearly three months on Tuesday, boosted by strong European bank results and a sign the U.S. economy was stronger than expected.

European shares edged lower as investors took a breather after Monday's strong rally sparked by robust results from financial heavyweights HSBC and BNP Paribas .

The bank results and stronger-than-expected manufacturing data from the United States boosted Wall Street on Monday and in turn fired up Asia on Tuesday.

A combination of solid earnings from HSBC and BNP Paribas and strong U.S. manufacturing data has significantly eased economic worries and boosted appetite for stocks, said Lee Sun-yeb, a market analyst at Shinhan Investment Corporation.

The MSCI Asia ex-Japan index <.MIAPJ0000PUS> rose 0.2 percent to its highest level since early May. It has rallied strongly from early July on optimism the world would avoid a 'double-dip' recession and is just in positive territory for the year.

However, after rallying nearly 18 percent from 2010 lows hit in May, the MSCI Asia ex-Japan index could face some upside resistance with the relative strength index (RSI) nudging 70, suggesting the market is close to being overbought.

U.S. stocks closed at their highest level in 10 weeks on Monday as the S&P 500 <.SPX> pierced key technical levels. Energy stocks jumped as a weak the dollar drew investors into crude futures, which rose 3 percent.

Reflecting the greater risk appetite seen in stocks, Asian debt spreads tightened to their narrowest spreads in nearly three months.

There is money to be put to work. Funds kept a higher-than-normal cash balance over the past few months because they were worried about redemptions, but the redemptions did not happen, said a bond trader from Singapore.

Now, it is a question of do you hold cash and miss the rally or put the money to work before the rally ends.


Japan's Nikkei <.N225>, which has lagged regional markets in recent weeks, climbed 1.3 percent. Mmarket players said though that the strength of the yen, which at 86.46 per dollar is close to an eight-month low of 85.95 hit last week, may limit further stock gains.

The Nikkei is down over 8 percent in 2010 and has risen 5.6 percent in the past two weeks on strong corporate results from heavyweights such as Sony <6758.T> and Honda Motor <7267.T>.

However, analysts are cautious.

This rise is difficult to trust, since it was based mainly on short-covering in thin volume. If something bad happens, the markets are likely to fall just as fast, said Yutaka Miura, a senior technical analyst at Mizuho Securities.

Because the yen remains strong, gains in Tokyo -- likely to be mostly short-covering anyway -- will be limited.

Shares of trading houses gained after copper and oil prices hit three-month highs on Monday as data eased fears of a double-dip recession by showing that global manufacturing was still expanding.

Mitsubishi Corp <8058.T> jumped 4.7 percent and Itochu Corp <8001.T> closed 5.6 percent higher, its best single-day rise in over a year.

The dollar was hovering near a three-month low against a basket of currencies <.DXY>, hobbled by worries over the strength of the U.S. recovery after a series of economic data in the past month undershot market expectations and suggested that the Federal Reserve would keep rates low for some time to come.

The low-for-long Fed, coupled with talk of more quantitative easing, yields itself to a dollar-funded carry trade, Dariusz Kowalczyk, senior strategist at Credit Agricole, said in a note. He added that the dollar is likely to stay under pressure in the short term.

U.S. data, such as June personal income, June factory orders and July auto sales, expected later on Tuesday, will offer further clues about the health of the U.S. economy.

(Additional reporting by Jungyoun Park in SEOUL and Jun Ebias in HONG KONG; Editing by Neil Fullick)