May 21 (Bloomberg) -- Asian stocks retreated, dragging the MSCI Asia Pacific Index from a seven-month high, as a strengthening yen hurt Japanese earnings prospects and the U.S. Federal Reserve projected a deeper recession.

Canon Inc., which got 28 percent of its revenue in the Americas last year, lost 2.4 percent. Takashimaya Co. sank 3.9 percent, leading declines among Japanese retailers, as the first cases of swine flu were confirmed in the Tokyo area. Melco International Development Co., which operates casinos, slumped 9.7 percent in Hong Kong after a venture posted a loss.

Two stocks declined for each one that advanced on the MSCI Asia Pacific Index, which fell 0.7 percent to 99.53 as of 7:59 p.m. in Tokyo. The gauge closed at its highest level since Oct. 6 yesterday, driving stock valuations to the most expensive since 2003.

“We need to see economic fundamentals improve to match the recovery in equity markets,” said Chong Yoon Chou, Singapore- based investment director at Aberdeen Asset Management Asia Ltd., which has $27 billion of assets. “An economic recovery will take some time.”

Japan’s Nikkei 225 Stock Average declined 0.9 percent to 9,264.15. China’s Shanghai Composite Index lost 1.5 percent as a Credit Suisse Group AG report said an economic rebound won’t be as “strong as many recently have hoped.” Markets in Asia fell except in Taiwan, the Philippines, Sri Lanka and Vietnam.

Federal Reserve Minutes

In Sydney, Rio Tinto Group, the world’s No. 3 mining company, rose 2.9 percent on a newspaper report that Aluminum Corp. of China may accept a lower stake to win approval for an investment. Chi Mei Optoelectronics Corp., Taiwan’s No. 2 maker of liquid-crystal displays, surged 6.4 percent, climbing for a second day on speculation it will benefit from Chinese subsidies. Online retailer Rakuten Inc. jumped 3.9 percent on speculation an outbreak of swine flu will push consumers to shop from home.

Futures on the U.S. Standard & Poor’s 500 Index lost 0.5 percent. The gauge sank 0.5 percent yesterday as American Express Co. said legislation to curb credit-card fees may reduce lending to consumers.

Fed policy makers projected a fourth-quarter U.S. contraction of 1.3 percent to 2 percent from a year earlier, according to minutes of an April 28-29 meeting released yesterday. That compares with January projections for a contraction of 0.5 percent to 1.3 percent.

Unemployment could stay at 9 percent through 2010, the Fed estimated. Former Fed Chairman Alan Greenspan said in an interview the housing market is still in “crisis” and banks require additional capital.

Yen Strength

The yen strengthened versus the dollar to as much as 94.29 today from 95.52 at the 3 p.m. close of stock trading in Tokyo yesterday, as the Fed said it considered buying more assets, a move that could devalue the U.S. dollar. A stronger local currency diminishes the value of overseas sales for Japanese manufacturers.

Canon, the world’s largest camera maker, sank 2.4 percent to 3,230 yen. Honda Motor Co., which gets 45 percent of its sales in North America, lost 1.5 percent to 2,645 yen.

“Should the yen continue to strengthen, people will likely start doubting whether companies’ rather optimistic outlooks are justified,” said Mitsushige Akino, who oversees about $632 million at Ichiyoshi Investment Management Co. in Tokyo.

MSCI’s Asia benchmark rallied as much as 42 percent from a more-than five year low reached on March 9. Stocks included in the MSCI gauge now trade at 43 times trailing earnings, the most expensive since 2003.

Swine Flu

Department store operator Takashimaya slipped 3.9 percent to 572 yen. Aeon Co., Japan’s second-largest retailer, declined 3.2 percent to 855 yen. Rakuten jumped 3.9 percent to 52,800 yen.

Two 16-year-old high school students have been confirmed as the first cases of swine flu in the Tokyo area, according to statements from the Tokyo and Kawasaki city governments. Japan said 234 people have the virus, which has sickened more than 10,000 people worldwide.

“Retail, restaurant and leisure businesses will be affected,” Ichiyoshi’s Akino said. “As people are likely to stay in their house, online retailers and mail-order companies will benefit.”

Melco sank 9.7 percent to HK$5.38. The company’s Melco Crown Entertainment Ltd. venture reported a first-quarter net loss of $35.3 million, compared with a profit of $43.2 million a year earlier.

Commodity Prices

Ibiden Co., which makes components for memory chips, slumped 2.7 percent to 2,740 yen. Hisanori Shimoi, an analyst at Nikko Citigroup Ltd., cut the stock to “sell” from “hold,” citing weak profit growth.

Rio gained 2.9 percent to A$66.64. Aluminum Corp., known as Chinalco, is open to letting Rio sell convertible bonds to other shareholders and would be prepared to accept a stake of 15 percent, the Sydney Morning Herald said. That would potentially avoid a breach of foreign ownership limits.

Commodity producers also climbed as crude oil for July delivery jumped 3.2 percent to $62.04 a barrel in New York yesterday, the highest settlement since Nov. 10. Copper futures added 1.8 percent. Both prices fell today.

BHP Billiton, the world’s largest miner and Australia’s largest oil producer, added 0.6 percent to A$34.40.

Chi Mei gained 6.4 percent to NT$19.90 in Taipei, extending yesterday’s 6.9 percent rally. The Chinese government said on May 19 it will provide 2 billion yuan ($293 million) to encourage consumers to replace old home appliances with new ones.

To contact the reporter for this story: Patrick Rial in Tokyo at prial@bloomberg.net; Jonathan Burgos in Singapore at jburgos4@bloomberg.net.

Last Updated: May 21, 2009 07:00 EDT