Asian equities opened the week softer, although progress in US-Iran peace talks tempered broader risk aversion and limited the downside. South Korea’s KOSPI was little changed, while Hong Kong’s Hang Seng and Indonesia’s IDX Composite were down by over 1% on the day. Japan diverged from the regional tone, with the Nikkei 225 up over 2% as sentiment improved.
The move in Tokyo followed an announcement by mediators Qatar and Pakistan of a formal 60-day roadmap towards a final US-Iran peace deal, after tensions rose around the Strait of Hormuz and US President Donald Trump warned of military action against Iran if Hezbollah attacks on Israel continued. Iran later said it had closed the waterway again, accusing the US and Israel of breaching a ceasefire and citing continued Israeli strikes in Lebanon. Separately, the US Federal Reserve maintained a hawkish tilt, with traders increasing bets on at least one 25-basis-point rate rise in 2026 if inflation remains sticky.
Market Volatility and Risk Positioning
We see the current market caught between fragile US-Iran peace talks and a hawkish Federal Reserve. This creates a clear recipe for volatility, which is confirmed by the CBOE Volatility Index (VIX) currently trading around 21, well above its historical average. We should prepare for sudden price swings in major indices over the next few weeks.
Given Iran’s temporary closure of the Strait of Hormuz, we are positioning for a potential spike in crude oil prices. Historically, even threats to this waterway, which is the chokepoint for nearly 20% of global oil consumption, have sent Brent crude prices soaring by over 5% in a single day, as seen during similar tensions in 2019. We are therefore looking at buying near-term call options on WTI and Brent futures to capitalize on this risk.
Monetary Policy, Equities, and Currency Strategies
The Federal Reserve’s continued hawkish tone is a significant headwind for equities. With fed funds futures now pricing in over a 70% probability of at least one more rate hike by the end of 2026, we are using this opportunity to hedge our long positions. We are buying put options on broad market ETFs like the SPY to protect against a potential downturn driven by higher interest rates.
While most of Asia traded lower, the Nikkei’s 2% rally presents a unique situation tied to yen weakness. As the Fed signals higher rates, the US dollar should strengthen, pushing the USD/JPY pair higher, a trend that historically benefits Japanese exporters and lifts the Nikkei. We are considering long positions in USD/JPY futures as a way to play this monetary policy divergence.
