Half-Point Rate Cut Doesn’t Steady Wall Street
October 8, 2008 - 5:15 PMAn angst-ridden stock market searched for stability Wednesday as investors weighed whether an emergency interest rate cut would boost confidence and end the paralysis in credit markets.
The Federal Reserve and other leading central banks cut rates in the hope that credit markets would soon relax and that banks would begin lending more freely to businesses and consumers. The Fed lowered rates by a half-point, saying in a statement that the turmoil in financial markets posed a further threat to an already shaky economy; it was joined in the rate cut by the European Central Bank, Bank of England, The Bank of Canada, the Swedish Riksbank and the Swiss National Bank.
But interest rate changes take months to work their way through the economy, and while investors clearly were happy with the central banks' actions, they were also well aware that in the near term, banks remain reluctant to lend because of fears they won't be paid back.
That fear, which increased after the failure of Lehman Brothers Holdings Inc. in mid-September, has all but shut down the credit markets, making it increasingly hard for companies and individuals to borrow, and in turn, posing a further threat to the economy. Wall Street has plunged in response to scarcity of credit, with the Dow down 875 points over the first two days of this week. Stocks initially rose on the rate cut Wednesday, then spent the day seesawing as investors were torn between bargain hunting and the reality of the credit markets' ongoing troubles.
Comments late in the session from Treasury Secretary Henry Paulson showed how jittery Wall Street is. While Paulson said the world's financial policymakers would continue to act together to shore up market confidence he also said the turmoil wouldn't pass quickly - and the major indexes briefly gave up some of their gains.
"With all of this occurring as a coordinated effort it is showing that everybody out there is trying to fight this thing, and that should bring some confidence back to the market," said Scott Fullman, director of derivatives investment strategy for WJB Capital Group. "But, the big question now is can the credit market open for business."
Stocks drew some early support from signs that the housing industry - whose troubles set off the series of events leading to the current credit problems - might be faring better than expected. The National Association of Realtors said pending home sales for August jumped unexpectedly, rather than falling 1.8 percent as had been predicted. Pending sales, which reflect signed contracts, rose 7.4 percent in August from an upwardly revised reading of 87 in July.
But investors who have been selling frantically because of the stymied credit markets, eventually discounted the home sales report.
In late afternoon trading, the Dow rose 94.62, or 1.00 percent, to 9,541.73.
Broader indexes were also higher. The Standard & Poor's 500 index rose 20.27, or 2.03 percent, to 1,016.50. The Nasdaq composite index rose 40.08, or 2.28 percent, to 1,794.96.
Declining issues were narrowly ahead of advancers on the New York Stock Exchange, where volume came to a heavy 1.5 billion shares.
With its precipitous drop of the past few weeks, Wall Street is approaching the magnitude of the losses it suffered during the bear market in the early part of this decade. By the time the Dow reached its low of that market, 7,286.27 on Oct. 9, 2002, it had fallen 37.8 percent from its record high close of 11,722.98, set in January 2000.
The Dow has now fallen about 33 percent from the closing high of 14,164.53, reached a year ago Thursday.
European indexes had a short-lived bounce after the rate cut. In Britain, the FTSE-100 ended down 5.18 percent, Germany's DAX dropped 5.88 percent, and France's CAC-40 dropped 6.31 percent.
In Asia, Japan's Nikkei 225 closed 9.38 percent lower and Hong Kong's Hang Seng tumbled 8.17 percent hours before the rate cuts were announced; their declines showed the extent of the worldwide gloom. And Russia's two main stock exchanges were suspended because of a massive sell-off right after their openings.
The worries on the Street have been exacerbated by the spread of the U.S. credit problems overseas. Several banks in Europe have had to be bailed out, and earlier this week, the governments of Germany, Ireland and Greece took steps to guarantee private bank deposits.
Moreover, the markets are mindful of the fact that the government's $700 billion financial rescue plan is in its early stages of implementation and will take some time to have an impact on banks' balance sheets.
David Wyss, chief economist for Standard & Poor's, said the losses around the world signals that markets are finally realizing that the credit crisis can't be resolved soon.
"There was a general disregard for risk going on in financial markets around the world, it wasn't just the U.S.," he said. "Now they're waking up to risk."
Investors had been anxious in recent days for a rate cut, and despite the Fed taking other steps this week to help the credit markets. Policymakers unveiled a plan to buy massive amounts of commercial paper, the short-term debt used by companies, in a bid to reanimate the credit markets.
It is likely that stocks won't begin to recover for good until investors are certain the credit markets are functioning in a more normal fashion. There are also severe economic problems including heavy job losses and high unemployment that will also need to show improvement.
The uncertainty in the market has driven investors to buy up anything deemed safe, including gold and government debt. For instance, prices of gold shot up $22.60 to $904.60 - though still off its record of $1,033.90 in March.
Demand for short-term Treasurys remained high because of their safety; investors are willing to take extremely low returns just to have their money in a secure place. The yield on the three-month Treasury bill, which moves opposite its price, dropped to 0.66 percent from 0.81 percent late Tuesday.
However, longer term Treasury bonds fell because they are considered to be less attractive when the Fed cuts rates. The yield on the 10-year note rose to 3.70 percent from 3.51 percent late Tuesday.
The first third-quarter earnings reports are showing signs of strain on companies, and that is adding more uncertainty to the stock market. After the close Tuesday, Alcoa Inc. said it would conserve cash by suspending its stock buyback program and all non-critical capital projects. The aluminum company's earnings fell 52 percent.
Shares of the company plunged $1.54, or 9.2 percent, to $15.17, by far the steepest decliner among the 30 that comprise the Dow industrials.
Retailers' reports of bleak sales in October appeared to damp investor sentiment at times.
Wal-Mart Stores Inc. said sales rose in September but issued a tepid forecast for October. Often discounters do better than other retailers during tough economic times so the forecast from the world's largest retailer caused some worries about overall retail demand.
Luxury retailers turned in a generally weak performance. Saks Inc. fell 59 cents, or 8.2 percent, to $6.61 after sales fell more than Wall Street had expected.
The Russell 2000 index of smaller companies rose 6.19, or 1.11 percent, to 565.14.
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