In spite of the fact that a deep rate cut was widely expected to come out of today’s (March 18)… … Fed meeting, financial markets of all kinds reacted with much exuberance to the .75 point rate cut announcement that came in the early afternoon.

Stocks, which had been up already with anticipation (Dow well over 200 much of the day), surged even higher near the close, with the Dow closing up 420 points on the day. This was the second 400 point-plus gain for the index in the last month.

Many investors and economists had been hoping for and looking for a full point reduction, as the Fed has taken an even more aggressive attitude toward combating economic and credit struggles. Investors had increased in their anticipation for a deep move following moves in the last several days, by the Fed, to help bail out struggling creditors, most notably their assistance with a buy out of struggling financial services company Bear Stearns.

The equity market reaction was a bit surprising given that often investors react in disappoint if rate cuts down reach full expectations. Today’s reaction seems to indicate the incredible euphoria in the market over the Fed’s desire to help get the economy moving. A couple surprisingly strong earnings outlooks likely helped generate momentum. Yahoo painted a very pretty picture for its 2009 and 2010 years, a surprise to some given recent talks of a Microsoft take over, or another type of desperate merger.

It was not just equities that moved today in anticipation of, and reaction to, the Fed announcement. After surpassing $111 yesterday, oil futures dropped off sharply before the rate cut announcement, before jumping back above $107 in the late afternoon. Today was the first pitfall in the almost daily rise to records of oil.

The dollar also saw a significant spike before and after the announcement. Rate cuts are typically negative for currencies as they reduce holding yields, but speculator seemed more interest in the economic hope that inspired equities investors. The dollar improved against most major currencies, perhaps most impressively against the yen. The dollar had dipped to around 97 yen, but jumped up near 100 yen in the afternoon. It also moved back over one Swiss franc after spending several days below equivalent value.

Gold was also impacted by the dollar rise as it slipped to around $976 per ounce in the later New York afternoon. Gold, like oil, has been on a merciless climb against the weakening dollar. It climbed up around $1,020 for a bit before sliding back near $1,000 and then dropping more today.

According to the Fed’s announcement stagflation concerns are on the rise. In fact, indications are that a one point rate cut might have been in the cards were it not for signs of a worsening inflation situation. The Central Bank has suggested it has put inflation concerns on hold a bit until the economy gets going. A couple leading members said they did not vote for the late-January rate cut based on concerns about inflation. Their concerns seem justified. Stagflation is a dilemma because the Fed must deal with competing forces, high prices and a sluggish economy. Inflation is usually approached with a rate easing policy. The recession concerns have prevented such thinking.

With tax rebates coming to millions of Americans in early May, and today’s strong rate cut move, pieces seem to be in place for a late 2008 turnaround. The hope is that the Fed has moved quickly enough to prevent a deep recession that becomes harder to dig out of. There certainly is no question they have moved aggressively.

Market Recap

US stocks were universally down early Monday before the Dow put together an afternoon rally to close up 21 points. The NASDAQ and S&P struggled to closes at 35 and 11 points down. The markets seemed to be reacting to two key Fed messages. The first was the Fed’s support of the Bear Stearns buy out and the potential for more intervention. The second was the strong indication of a deep rate cut on Tuesday. Tuesday did bring a ¾ point rate cut which lead to a 420 point Dow gain, and an 91 point NASDAQ rise. The S&P climbed 54. Yahoo can be credited for leading to some of the market euphoria is it gave a great outlook for 2009-2010. The general sense is the economy is still in bad shape, but hope remains. Oil dropped off sharply and sat at $107 at the New York close. Gold also dipped to $976.

Neil Kokemuller
Tuesday, March 18, 2008
4:17 PM EST

Neil Kokemuller is an Associate Professor of Marketing at Des Moines Area Community College in Des Moines, Iowa, USA. He has a MBA from Iowa State University with a specialization in marketing.

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