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By William Patalon III
And Jason Simpkins
U.S. stocks posted their biggest gain in almost five years yesterday (Monday) – despite yet another volatile trading session – as credit worries sparred with hopes that today's central bank meeting will have a calming effect on the markets. International markets were largely mixed yesterday, as the uncertainty over the U.S. economy's credit issues and questionable health spilled over into the markets abroad.
But in a dramatic turnabout today (Tuesday), Asian stocks rebounded and soared in early trading – rebounding from a six-week low – as overseas investors speculated that the U.S. government will somehow step in and move to limit the mortgage-loss fallout that triggered the recent decline in worldwide stocks.
"People are starting to see that this is a U.S. economic problem whose main effects will probably be contained there," Atul Lele, an investment manager with White Funds Management in Sydney, Australia, told Bloomberg News early this morning.
Unfortunately, the reality is more complicated – and less positive – than many investors believe.
The big rebound in U.S. shares yesterday (Monday) is noteworthy – especially following Friday's 281-point loss – because it underscores the investors' growing uncertainty about the U.S. market, meaning that a single development that investors perceive as a "defining event" will likely be enough to cause U.S. share prices to soar, or to plummet.
And because Asian shares are following a very similar pattern – rebounding strongly in early trading today (Tuesday) after a lackluster session yesterday – it seems to show that investors abroad are closely watching the U.S. economy. Those investors are following the U.S. market's lead, and are reacting to what's happening here – instead of focusing on the higher growth rates and healthier economies in their own backyards.
The bottom line: The growing uncertainty, and the volatility that always accompanies such feelings, that has permeated the U.S. stock market in recent weeks are finally seeping beyond U.S. borders.
Looking for Leadership
Investors will be closely watching today's meeting of Federal Reserve policymakers. U.S. shares could easily gallop off in either direction – depending upon any decisions the central bankers make about short-term interest rates, or any statements they make about inflation, the credit markets, or the overall health of the U.S. economy.
International investors perceived that better times are coming. In early trading in Tokyo today, the Morgan Stanley Capital International Asia-Pacific Index jumped out to quick 0.3% gain. Only yesterday the benchmark index had declined 1% – meaning that it reached its lowest point since June 27, and also meaning it had fallen 6% since it closed at a record high on July 24.
In other trading action today, Japan's Nikkei 225 Index leaped out to an early 0.8% gain, reversing a two-day skid that had taken the Nikkei down by 0.4%. Two bellwethers of Japan's finance sector – Nomura Holdings Inc., and UFJ Financial Group Inc. – were big beneficiaries. Nomura, Japan's largest brokerage, and a company that's experienced some sub-prime fallout, climbed 3%, while Mitsubishi, Japan's biggest bank, advanced 1.7%, according to published reports.
In another positive development this morning, the early gains were broad-based across Asia, as benchmark indices in South Korea, New Zealand and Australia all rose. Financial stocks throughout Asia rose in price, sending the MSCI Asian financial-services-industry index up 0.6%. Over the past month, that index has been the worst performer of 10 sector groups, having shed a staggering 5.5% of its value, published reports state. Australia's biggest brokerage firm, Macquarie Bank Ltd., soared 5.4% today, after the stock dropped yesterday and closed at its lowest point since mid-October. In an announcement that eerily mirrored the recent bad-news revelations of the U.S.-based Bear Stearns Cos. (NYSE: BSC), Macquarie last week announced that investors in two funds might lose 25% of their money because of disruptions in the credit markets.
Yesterday, the Dow Jones Industrial Average soared 286.87 points, or 2.2%, to close at 13,468.78. It was the Dow's biggest point gain since October 2002. And it was the blue-chip index's biggest percentage gain since June 2003. The Standard & Poor's 500 gained 34.61 points, or 2.42%, to close at 1,467.67. The high-tech-laden Nasdaq composite index rose 36.08 points, or 1.44%, to close at 2,547.33.
The rally in U.S. shares recouped $363 billion of the $1.6 trillion in shareholder wealth that had been obliterated since stocks reached record levels back in mid-July. With investor sentiment recently swinging wildly between gloom and euphoria, the 30-stock Dow has posted a single-day more of more than 100 points eight times in the past 10 trading sessions. But Monday‘s advance wasn't broad-based, unfortunately: Gainers outnumbered decliners by only a six-to-five margin. Some of the biggest gains came out of the healthcare and financial sectors.
Financial Sector Benefits
Fannie Mae (NYSE: FNM) yesterday posted its biggest percentage gain in more than 20 years, after investors discovered the home-loan finance giant has asked federal regulators to raise the cap on the mortgages it can hold as investments. Fannie Mae shares soared $5.87 each, or nearly 10.4%. It is asking for the limit on its mortgage-securities holdings to be raised as a way to make more cash available for the already-tight mortgage market. Tumbling home prices and the huge spike in defaults have chased investors right out of the whole mortgage market, which includes mortgage-backed bonds and related securities. According to a new report in Forbes magazine, it was Fannie Mae's request to the Office of Federal Housing Enterprise Oversight that fueled the share-price advance. The reason: The government-sponsored company finances one out of every five U.S. home loans. But Fannie Mae was ordered last year to keep its mortgage holdings below an agreed-upon level – currently about $727 billion – the result of a massive accounting scandal that surfaced in September 2004. Now Fannie Mae and its smaller sibling, Freddie Mac (NYSE: FRE), want to purchase tens of billions of dollars worth of sub-prime mortgage loans, a move designed to help keep borrowers who have the high-priced loans from defaulting and losing their homes. The two companies would then offer new mortgages with longer payment terms and fixed interest rates that the sub-prime borrowers could use to refinance their existing mortgages, since those existing sub-prime loans have adjustable interest rates that are about to set at much higher rates.
More than $50 billion of these adjustable-rate mortgages (ARMs) will reset in October alone, a record. Once that happens, these unlucky borrowers could be faced with monthly mortgage payments that are up to 40% higher than what they carried before. Indeed, according to one representative scenario, a person who currently has a mortgage payment of roughly $950 per month and faces a reset would subsequently be burdened with a monthly payment of $1,350 per month. During periods when credit is more freely available, these homeowners would just refinance the loan, finding one with more-favorable terms. But the fallout from the sub-prime bomb has made that largely impossible. And some economists fear that the fallout from this looming battle of bulging resets could cause the broader U.S. economy to stumble.
And given the global trading patterns of recent days, we can't help but wonder if a stumbling U.S. market wouldn't then trip up some markets abroad.
Another beneficiary of yesterday's market surge was investment banker Merrill Lynch (NYSE: MER), whose shares rose $4.50, or 6.42%, to close at $74.55. Though noting it might be "a bit early" with its call, UBS Securities upgraded Merrill to a "buy," saying the credit crunch and housing downturn is more-than-reflected in the investment banking company's share price. Besides, Merrill Lynch is well diversified, UBS said. However, even with the upgrade, UBS did reduce its price target for Merrill's stock from $98 to $86.
Other financial stocks moved, too. JP Morgan & Chase Co. (NYSE: JPM) climbed $1.46 a share, or 3.34%, while the shares of Citigroup Inc. (NYSE: C) shot up 5.75%, or $2.63 per share, to close at $48.35.
The healthcare industry also rebounded, making its biggest move in three weeks. Shares of UnitedHealth Group (NYSE: UNH) climbed $1.00 each, while Cigna Corp. (NYSE: CI) shares climbed 93 cents each to post a 1.94% gain. Aetna Inc. (NYSE: AET) saw its shares rise 67 cents each.
Fed Meeting will be Key
Contrarily, as we noted earlier, stock markets abroad yesterday suffered a few setbacks in response to Friday's U.S. sell-off. The United States is the world's biggest consumer-based economy. And an economic slowdown here could mean trouble for foreign economies that view us as a key target market. Some of those fears manifested themselves with the increasing volatility abroad.
The United Kingdom's FTSE 100 was down 0.6% yesterday, closing at 6,189.10. The French CAC-40 index closed down 1.2%, at 5,532.99 and the pan-European Dow Jones Stoxx 600 index lost 0.9%, concluding its trading day at 368.72.
However, the Shanghai Composite Index rose 1.5% yesterday, to close at a record 4628.11.
Stocks in Indonesia and Singapore fell 3% yesterday, while share prices in the Philippines, Thailand, and Hong Kong sank more than 2%. Tokyo's Nikkei 225 index ended 0.4% lower at 16,914.46, though it came off an intraday low of 16,675.39 toward the close.
In other trading yesterday, fears about possible weakness in the U.S. economy sent oil prices spinning downward, with crude closing at less than $74.00 a barrel. Today's meeting by the U.S. central bank's policymaking Federal Open Market Committee (FOMC) will be a key to the direction of stock prices in the days and weeks to come. Right now, Fed Funds futures rate the odds of a reduction in short-term interest rates by January at nearly 100%, which underscores investor fears that the swirling credit crunch is going to get worse – perhaps even bad enough to topple the U.S. economy into a recession.
Currently, the Fed Funds rate stands at 5.25%, and most investors believe FOMC members will keep rates there today. The question will be whether the central bank will express concerns about the economy's strength. Policymakers – including Fed Chairman Ben S. Bernanke – do not seem to be worried about the growing credit problem.
Indeed, the central bank still views inflation – and not a downturn sparked by a credit lockout, an abrupt end to the buyout boom, a consumer confidence rout, and near-record energy prices – as the key foe of the U.S. economy.
