After learning that Merrill Lynch had to write off $7.9 billion in losses tied to mortgage-related securities, Wall Street again is yearning for the Federal Reserve to lower interest rates to make the financial pain go away.
October is shaping up as a scary Halloween-esque sequel to summer’s market turbulence. Stocks are again being repriced lower because of the ongoing fallout from defaults on subprime mortgages and the resulting drop in the market value of fixed-income securities tied to loans gone bad.
The Dow Jones industrials rebounded Wednesday from a 206-point decline – prompted by the Merrill announcement and more bad news on the housing market – to finish down 1 point at 13,675. The Dow is down 3.5 percent from its Oct. 9 high but up 9.7 percent for 2007.
In mid-September, the Fed eased the panic that engulfed investors when credit fears first hit this summer by cutting its target for short-term interest rates more than expected. That cut, which totaled half of a percentage point to 4.75 percent from 5.25 percent, sparked a relief rally that sent stocks to record highs.
But those rate-cut-inspired gains have been erased as a string of bad profit reports from major U.S. banks unveiled both the massive losses and outsized exposure to complex financial instruments tied to imploding subprime loans. Traders also fear that more losses will be announced by firms still holding hard-to-sell, hard-to-value mortgage-related securities.
Now, Wall Street is counting on another Fed rate cut to relieve the stresses still haunting financial markets and the economy. Futures markets are pricing in a 100 percent chance of a quarter-point rate cut by the Fed at its Oct. 31 meeting, says Economy.com.
Many agree that stocks will suffer if the Fed doesn’t cut. The big question is if stocks will rally like they did after the Fed’s first cut on Sept. 18. The Dow rallied 336 points that day and an additional 425 before peaking. In the bullish camp, Nick Raich, research chief at National City Private Client Group, says don’t bet against a Fed bent on keeping the economy out of recession. Others say gains will be smaller because:
– “There’s not much of a surprise factor this time,” says Paul Hickey of Bespoke Investment Group.
– “If the Fed cuts rates because the economy is weaker than it thought, it won’t help stocks as much,” says Denis Amato, Ancora Advisors’ chief investment officer.
– “The difference this time is we’re seeing more deterioration in earnings,” says Bruce McCain, head of strategy at Key Private Bank.
Merrill’s write-off was troubling because it was 75 percent larger than a warning it issued to analysts earlier this month. And in a conference call, Merrill CEO Stan O’Neal would not rule out further write-downs.
