U.S. Stocks Climb, Led by Banks; S&P 500 Recovers From Drop

(Source: Bloomberg)
By Lynn Thomasson

U.S. stocks rose after a closing rally in banks and securities firms helped restore about $369 billion to the Standard & Poor's 500 Index and $105 billion to the Dow Jones Industrial Average.

Bear Stearns Cos., the second-largest U.S. underwriter of mortgage bonds, climbed the most since 1998 on speculation it may get an infusion of capital. Citigroup Inc., Bank of America Corp. and JPMorgan Chase & Co., the three biggest U.S. banks, provided the best gains in a week for financial shares on expectations the Federal Reserve may lower interest rates this year.

``There are rumors around that there is rescue financing coming in for some of the financials, particularly for Bear Stearns,'' Barton Biggs, a former Morgan Stanley strategist who now runs the $1.5 billion hedge fund Traxis Partners LLC, said in an interview.

The S&P 500 advanced 4.57, or 0.3 percent, to 1,411.27. The Dow average lost 15.69, or 0.1 percent, to 12,845.78 after earlier falling 344 points. The Nasdaq Composite Index slipped 7.76, or 0.3 percent, to 2,451.07.

Financial shares in the S&P 500 climbed 3.5 percent, their first advance in six days, after earlier dropping 1.5 percent. Stocks recovered after the average price-earnings ratio on the S&P 500 slipped to its lowest since January 1991.

U.S. stocks tumbled for most of the day after Countrywide Financial Corp., the biggest U.S. mortgage lender, said it borrowed the entire $11.5 billion available in a bank credit line as the global financial crisis curbed access to short-term financing. A record 2.98 billion shares changed hands on the New York Stock Exchange.

Global Retreat

Equity markets around the world tumbled, sending benchmark indexes in Europe and Asia to the lowest levels in five months. Developing nations led the tumble, with the Morgan Stanley Capital International Emerging Market Index dropping 5.6 percent, its biggest decline since 2000. Turkey's Istanbul Stock Exchange National 100 Index sank 9.7 percent in dollar terms, the biggest decliner among 89 indices tracked by Bloomberg.

Europe's Dow Jones Stoxx 600 Index fell 3.6 percent, while Asian stocks posted their biggest two-day decline in a year as the MSCI Asia-Pacific Index retreated 2.3 percent.

Bear Stearns

Bear Stearns, the fifth-largest U.S. securities firm and manager of two hedge funds that collapsed in July, increased $13.29, or 13 percent, to $116.44 for the best performance in the S&P 500.

``If the firm is successful in bringing in a `deep pocket' partner, it will stop all rumors concerning potentially more adverse results,'' Punk Ziegel & Co. analyst Richard Bove wrote in a note to investors.

Citigroup, the largest U.S. bank, climbed $1.94 to $47.55. Bank of America, the second biggest, added $1.62 to $49.85. JPMorgan, the No. 3, rose $2.47, or 5.7 percent, to $45.47 for its biggest gain in a year.

The Fed should reduce interest rates ``pretty soon'' because mortgage market losses have created a ``credit crunch,'' Barton Biggs said.

`Losing Faith'

``People are losing faith in credit, so the economy is seizing up,'' said Biggs, 74. ``That's why it's important that the Fed cut rates and get confidence back in the system.''

Biggs predicted in April that the Dow average will rise 19 percent this year. The 30-stock gauge has risen 3.1 percent so far and has dropped 8.2 percent since reaching a record July 19.

Other investors and traders said speculation of a rate cut spurred the rally in financial shares.

``There's a rumor of an emergency Fed meeting,'' said Thomas Garcia, head of trading at Thornburg Investment Management, which oversees about $45 billion in Santa Fe, New Mexico. ``You've got a major credit crunch right now and these guys need to get it together and do something about it.''

No meeting was scheduled for the rate-setting Federal Open Market Committee today, according to the Fed's Web site. Any unscheduled meetings of the FOMC would be ``confidential,'' St. Louis Fed President William Poole said in an interview yesterday.

The Fed added a total of $17 billion in temporary funds to the banking system today to meet banks' demand for cash. It ``stands ready'' to conduct more operations as needed to ``facilitate trading at rates around the operating objective'' of 5.25 percent, the New York Fed said in a statement.

Fannie Mae

Fannie Mae increased $3.83, or 6.2 percent, to $65.28. Chief Executive Daniel Mudd said on a conference call that the company continues to seek permission from the U.S. government to increase the amount of mortgages it is allowed to purchase.

``We're having a constructive and respectful conversation but a conversation all the same,'' Mudd said on a conference call. ``We think that this is what our company was built for.''

The main measure of U.S. stock volatility climbed to the highest since March 2003.

The Chicago Board Options Exchange Volatility Index, known as the VIX, increased 0.5 percent to 30.83 and rose as high as 37.50. Higher readings in the gauge, derived from prices paid for S&P 500 options, indicate traders expect bigger share-price swings in the next 30 days.

Countrywide

Countrywide lost $2.34, or 11 percent, to $18.95, a four- year low. David Sambol, the lender's president and chief operating officer, said liquidity in the mortgage industry has ``become constrained.'' Countrywide said today it drew down an $11.5 billion bank credit line as the global credit crunch curbed access to short-term financing from debt markets.

Moody's Investors Service cut its rating on the company's debt three levels to Baa3, the lowest investment-grade level, from A3.

Concerns that credit-market losses were spreading were also spurred when First Magnus Financial Corp., the second-largest privately held U.S. mortgage company, said it would stop funding new loans, adding that the secondary mortgage market has collapsed.

More than 70 U.S. mortgage companies have closed operations or sought buyers since the start of 2006 as investors became concerned about rising late payments.

About nine stocks rose for every eight that fell on the New York Stock Exchange.

In other markets, yields on 10-year Treasury notes declined 0.06 percentage point to 4.66 percent. Crude oil for September delivery fell $2.33 to $71 barrel in New York, the lowest price since June 29.

The Russell 2000 Index, a benchmark for companies with a median mark value of $639 million, gained 2.3 percent to 768.83. The Dow Jones Wilshire Index, the broadest measure of U.S. shares, increased 0.3 percent to 14,190.36.

Bank of America Corp. (BAC US)
Bear Stearns Cos. (BSC US)
Citigroup Inc. (C US)
Countrywide Financial Corp. (CFC US)
Fannie Mae (FNM US)
JPMorgan Chase & Co. (JPM US)

U.S. Stocks Drop, Erasing S&P 500's Gain for 2007; Banks Fall

(Source: Bloomberg)
By Lynn Thomasson

The stock market buckled and erased all of this year's gains for the Standard & Poor's 500 Index on speculation the nation's biggest mortgage lender may be forced into bankruptcy.

Countrywide Financial Corp., the Calabasas, California-based lender with about 55,000 employees, tumbled 13 percent on the New York Stock Exchange. Earlier in the day, Merrill Lynch & Co. said Countrywide could face ``effective insolvency'' should creditors force it to sell assets at depressed prices. Freeport-McMoRan Copper & Gold Inc. led raw-materials producers to the biggest decline in the S&P 500 on concern mounting credit losses may slow economic growth and reduce demand for metals.

The S&P 500 dropped for a third day, losing 19.84, or 1.4 percent, to 1,406.70. The Dow Jones Industrial Average retreated 167.45, or 1.3 percent, to 12,861.47, sending the 30-stock gauge below 13,000 for the first time since April. The Nasdaq Composite Index decreased 40.29, or 1.6 percent, to 2,458.83.

``Feels like we're on the edge of a panic to me,'' said Jeffrey Saut, who oversees $33.7 billion as chief investment strategist at Raymond James & Associates in St. Petersburg, Florida. ``In our business, psychology is everything and psychology has changed real quick on Wall Street.''

Global Retreat

European stocks fell a second day and a benchmark index for Asian shares slipped. Yields on three-month Treasury bills declined the most since 1989 as investors sought the safety of government debt. The dollar weakened to a 4 1/2-month low against the yen as investors sold riskier assets funded by loans in Japan.

The S&P 500's 6.1 percent retreat since Aug. 8 was the biggest five-day loss since Oct. 9, 2002. The Dow's 5.8 percent tumble over the same period was the largest since Jan. 27, 2003.

The benchmark index for U.S. stock volatility, called the VIX, exceeded 30 for the first time since April 2003.

Countrywide Financial dropped for a fifth day, falling $3.17 to $21.29 for the steepest decline in the S&P 500 and the shares' biggest retreat since the stock-market crash in October 1987. Merrill Lynch advised clients to sell the shares and said ``funding markets are deteriorating quickly.''

Amber Cousins, a spokeswoman for Countrywide, didn't return calls seeking comment.

Freeport-McMoRan tumbled $5.48 to $77.87 after the price of copper dropped to a seven-week low.

The miner led a gauge of raw-materials producers to a 3.1 percent retreat, the biggest among 10 industries in the S&P 500.

Railroad Rout

CSX Corp., the third-largest U.S. railroad, declined $2.87 to $42.27 after analysts at Citi Investment Research said the shares do not reflect the risk of a slowing U.S. economy, adding that they expect coal volumes to be little changed.

Norfolk Southern Corp., the fourth-largest U.S. railroad, retreated 71 cents to $49.37. Burlington Northern Santa Fe Corp., the second biggest, fell $1.18 to $79.05. Union Pacific Corp., the largest, lost $5.49 to $107.65. Citi had a ``hold'' rating for all four rail stocks.

Financial shares dropped 1 percent as a group. For the year, the S&P 500 Financials Index has lost 13 percent for the biggest decline among 10 industry groups as losses in credit markets spread throughout the industry.

Goldman, MFA

Goldman Sachs Group Inc. fell $4.85 to $164.90. The world's most profitable securities firm waived fees to draw investors to its Global Equity Opportunities hedge fund after stock-market losses wiped out $1.4 billion of assets this month, according to a person with direct knowledge of the terms.

MFA Mortgage Investments Inc. declined 39 cents to $6.01 after Bear Stearns & Co. downgraded the real estate-investment trust that invests in home loans to ``peer perform'' from ``outperform.''

Financial shares rallied earlier in the day after Canadian financial services firm Coventree Inc. said it found buyers for C$600 million ($558 million) of asset-backed commercial paper, indicating a funding freeze may be lifting.

Sales of bonds backed by consumer and home loans fell 87 percent to $1.3 billion last week and no mortgage bonds were sold as short-term debt rates rose, according to data compiled by Bloomberg.

The Chicago Board Options Exchange Volatility Index increased as much as 15 percent to 31.76. Higher readings in the so-called VIX, derived from prices paid for S&P 500 options, indicate traders expect bigger share-price swings in the next 30 days.

`Crash Scenario'

``What that indicates is that people are worried not about this move or the past couple of weeks but the possibility of a real market sell-off or crash scenario,'' said Ben Londergan, co- CEO of Group One Trading LP in Chicago. ``We've seen not that large a move to the downside in percentage terms but we've really had a big move up in the VIX.''

More than 5 stocks fell for every one that gained on the New York Stock Exchange. Some 2 billion shares changed hands on the Big Board, 15 percent more than the three-month daily average.

Technology shares in the S&P 500 fell 1.8 percent, led by Agilent Technologies Inc. The world's biggest maker of scientific-testing equipment tumbled $3.94 to $32.39 after forecasting fourth-quarter sales and profit that fell short of analysts' estimates. The company blamed its reduced forecast on a slump in Asia and consolidation among the company's customers.

Applied Materials Inc. fell 88 cents to $20.36. The largest manufacturer of semiconductor-production machines said orders, an indicator of future sales, retreated 14 percent from the previous quarter, at the lower end of a forecast given by Chief Executive Officer Mike Splinter in May.

Economy Watch

In economic reports, the government said consumer prices climbed 0.1 percent in July, the smallest gain in eight months, signaling the Federal Reserve may view inflation as less of a threat. Core prices, which exclude food and energy, climbed 0.2 percent and were up 2.2 percent from a year earlier. The figures matched forecasts by economists in a Bloomberg survey.

The National Association of Home Builders/Wells Fargo index of builder confidence declined to 22, from 24 in July, the Washington-based association said. A reading below 50 means most respondents view conditions as poor. The gauge has decreased for six consecutive months.

Manufacturing in New York state unexpectedly held near the highest level in more than a year in August. The Federal Reserve report showed. The New York Federal Reserve's general economic index fell to 25.1 from 26.5 in July. Economists forecast the index would decline to 18 this month, according to a survey.

In other markets, crude oil for September delivery gained 95 cents to $73.33 a barrel in New York.

The Russell 2000 Index, a benchmark for companies with a median market value of $639 million, lost 1.5 percent to 751.54. The Dow Jones Wilshire 5000 Index, the broadest measure of U.S. shares, fell 1.5 percent to 14,146.41.

The Morgan Stanley Capital International World Index, a global benchmark, lost 1.5 percent. The MSCI Asia-Pacific Index declined to a three-month low, losing 2.5 percent. In Europe, the Dow Jones Stoxx 600 Index lost 0.3 percent.

Yen Climbs to Four-Month High Against Euro on Subprime Losses

(Source: Bloomberg)
By Ron Harui and David McIntyre

The yen rose to a four-month high against the euro and the New Zealand dollar as widening credit- market losses prompted investors to cut higher-yielding assets funded by loans in Japan.

The yen has gained against all 16 most-active currencies this month as investors exited so-called carry trades that have pushed down the yen 6.5 percent versus the euro in the past year. Japan's currency has surged 8.5 percent against New Zealand's dollar in August, heading for the best month in seven years.

``We envisage further yen gains,'' said Sue Trinh, a currency strategist at RBC Capital Markets said in Sydney. ``The tolerance for risk remains exceptionally low as we see increasing signs of global contagion emanating from the U.S. related to subprime delinquencies.''

The yen climbed to 158.62 per euro at 12:40 p.m. in Tokyo, the strongest since April 5, and to 117.33 per dollar from 117.57. It rose 1.2 percent against the euro and 0.6 percent versus the dollar yesterday.

The Nikkei 225 Stock Average fell 1.6 percent and the Morgan Stanley Capital International Asia-Pacific Index of shares declined 1.7 percent after U.S. stocks dropped yesterday. The Standard & Poor's 500 Index and Dow Jones Industrial Average fell 1.8 percent and 1.6 percent, respectively.

Coventree Inc., the Canadian firm that failed to sell asset- backed commercial paper because of a credit crunch, said some lenders declined to offer emergency funding for C$700 million ($655.8 million) of maturing debt. Canada's dollar weakened 1.3 percent yesterday, the biggest fall since June 2006, and dropped to 93.51 U.S. cents today.

Positive for Yen

``The credit concerns are ending up in places except the U.S., like Europe, Australia and so forth,'' said Luke Waddington, head of interbank currency sales in Tokyo at Royal Bank of Scotland Group Plc. ``It seems there's a contagion. It's very positive for the yen,'' which may advance to 117.00 against the dollar and 158.30 per euro today, Waddington said.

New Zealand's dollar, a favorite of the carry trade because its interest rate is 7.75 percentage points higher than Japan's, has slid the most among the 16 major currencies in the past week, falling 4.2 percent against the yen. The Australian dollar has dropped 2.3 percent.

The New Zealand dollar declined to 84.60 yen from 85.40 and the Australian dollar fell to 97.64 yen from 98.11, the weakest since April 24 as Basis Capital Fund Management Ltd., an Australian hedge fund battered by declines in the U.S. subprime market, said losses in its Yield Fund may exceed 80 percent.

U.S. Treasuries

Losses in the dollar may be limited by speculation the slump in global credit markets will spur investors to seek the safety of U.S. government debt.

``There's a good chance that they will put their money into Treasuries,'' said Xing Wei, a currency dealer at Shinsei Bank Ltd. in Tokyo. ``It's a plus for the dollar,'' which may gain to 118.00 yen and $1.3500 per euro today.

The yield on the benchmark two-year Treasury notes fell 2 basis points, or 0.02 percentage point, to an 18-month low of 4.34 percent, according to bond broker Cantor Fitzgerald LP.

A Labor Department report may show today the consumer price index last month rose 0.1 percent following a 0.2 percent gain a month earlier, according to a Bloomberg News survey of economists. Inflation excluding food and energy, the so-called core CPI, may have gained 0.2 percent, the same increase as in June, the Bloomberg survey also showed.

Japan's currency will strengthen beyond 116 per dollar by the end of September on concern growing losses on U.S. subprime mortgages will prompt investors to shun riskier assets, according to BNP Paribas.

Hedge Fund Liquidation

Hans Guenter Redeker, global head of currency strategy at France's biggest bank, said the market should be on alert today, when hedge funds will know how much of their funds will be withdrawn at the end of the quarter. Any further liquidation will prompt investors to exit carry trades and repay loans made in yen for purchasing higher-yielding assets.

``Bad news on the subprime market is far from over,'' said London-based Redeker. ``I suspect there will be more hedge fund liquidation. Risk aversion will push funding currencies such as the yen higher.''

The euro fell to the lowest in more than six weeks versus the dollar on speculation subprime losses are spreading to Europe.

The currency dropped for a third day, the longest run since June 28, on concern turmoil in financial markets will prompt the European Central Bank to delay an interest-rate increase next month. A Spanish newspaper reported yesterday Banco Santander SA has more than 2 billion euros ($2.7 billion) of investments in U.S. high-risk loans.

``The longer this goes on, the risk of them not being able to raise rates in September will rise quite significantly,'' said Robert Rennie, chief currency strategist at Westpac Banking Corp. in Sydney. ``It's just going to be a case of slow and steady decay for the euro'' to $1.3450 in the next week, he said.

Europe's single currency fell to $1.3517 per dollar, the lowest since June 29, from $1.3533 yesterday.

U.S. Stocks Fall on Financing Concern; MBIA, Exxon Lead Drop

By Lynn Thomasson

Aug. 13 (Bloomberg) -- U.S. stocks fell in a late-day sell- off of financial and energy shares on concern credit-market losses are hampering companies' ability to raise financing.

MBIA Inc., the largest bond insurer, led declines in the Standard & Poor's 500 Index following the bankruptcy of Houston- based subprime lender Aegis Mortgage Corp. The Dow Jones Industrial Average dropped for a third day, paced by Exxon Mobil Corp., the biggest oil producer, and American Express Co., the third-largest credit card company.

Canadian financial-services company Coventree Inc.'s failure to sell asset-backed commercial paper also contributed to declines that kept the U.S. market from joining a global advance. European shares posted their best gain in a year after central banks added more cash to banks to ease a credit crunch.

The S&P 500 slipped 0.72, or 0.1 percent, to 1452.92. The Dow average lost 3.01, or 0.02 percent, to 13,236.53. The Nasdaq Composite Index decreased 2.65, or 0.1 percent, to 2542.24.

``There's not a lot that gets me excited about putting money in the market right now,'' said Jason Cooper, who helps manage $2.5 billion at 1st Source Investment Advisors in South Bend, Indiana. ``When you continue to see these companies trying to keep their heads above water and then they throw up their hands and file Chapter 11, it creates concern and risk that investors don't want to see.''

MBIA retreated $4.65, or 8 percent, to $53.85. Exxon lost $1.59 to $82.92. American Express slipped $1.33 to $59.45.

Early Rally Erased

Stocks rose earlier in the day, led by technology companies, on speculation demand will grow for database software, computer consulting and Apple Inc.'s iPhone.

Financial shares had also advanced earlier after Goldman Sachs Group Inc., the world's largest securities firm, announced plans to shore up one of its hedge funds with $3 billion in new capital.

Goldman's shares, which climbed as much as 3.7 percent in early trading, closed down $3, or 1.7 percent, at $177.50 after Punk Ziegel cut its share price forecast by 18 percent to $178, saying investment banking activity is slowing.

Financial companies in the S&P 500 fell 0.8 percent after earlier rallying 1.3 percent.

Fannie, Freddie

Fannie Mae, the largest source of U.S. home loans, dropped $2.34 to $64.12. After the close of trading on Aug. 10, regulators denied requests by Fannie Mae and Freddie Mac to purchase more loans and increase the supply of cash to the mortgage market. Freddie Mac lost 43 cents to $61.52.

Accredited Home Lenders Holding Co. fell $3.09, or 35 percent, to $5.82 after buyout firm Lone Star Funds said it wouldn't go through with its planned $400 million purchase of the subprime mortgage lender. Accredited said today it's suing to force Lone Star to honor the agreement.

Financial shares were also buffeted after Kohlberg Kravis Roberts & Co., the private-equity firm that plans to raise $1.25 billion in an initial public offering, said the recent jump in borrowing costs for leveraged buyouts may hurt its funds' performance.

``It's difficult to find a financial institution that's completely untouched and immune from this contagion,'' said Rob Brown, who helps manage about $13 billion at Genworth Financial Asset Management in Los Angeles. ``Now it's just a question of how bad and over what time period they will be affected.''

Homebuilders in S&P indexes dropped 5.8 percent as a group, the steepest decline since November 2005. D.R. Horton Inc., the second-largest U.S. homebuilder, fell 57 cents to $16.87 after analysts at JPMorgan Securities Inc. cut the shares to ``neutral'' from ``overweight'' and said they expect negative order growth in the second half as ``elevated'' home inventories hurt pricing.

Lennar, Centex

Lennar Corp., the largest U.S. homebuilder, lost $2.53 to $32.92. Centex Corp. declined $2.78 to $35.63.

Beazer Homes USA Inc. dropped the most since its initial public offering in 1994, losing $2.85, or 19 percent, to $12.34. The homebuilder under investigation by the FBI and securities regulators said it will delay filing its quarterly report with securities regulators.

EMC Corp., the world's largest maker of data-storage computers and software, rose $1.33, or 7.5 percent, to $19.05 for the biggest gain since April 2005. S&P equity analyst Jawahar Hingorani said the company's initial public offering of its VMware software business, which plans to raise as much as $1.1 billion today, ``adds to our positive view of EMC fundamentals.''

Computer Sciences Corp. rose $4.88, or 9.2 percent, to $57.67, for the biggest gain in the S&P 500. The company may outperform the market by as much 10 percent in the next three to six months, given the stock's valuation and the company's efforts to increase commercial and government orders and cut costs in Europe, Cowen & Co. analysts Moshe Katri and Avishai Kantor wrote in a note.

BMC Software, Apple

BMC Software Inc. advanced $1.80 to $29.80. The maker of programs that manage databases and networks was raised to ``buy'' from ``neutral'' by Kirk Materne at Banc of America Securities LLC, who cited ``diligent'' cost management and improving trends in the mainframe business that will help drive earnings.

Apple climbed $2.79 to $127.79. The iPhone launch has been ``epic'' and the company should benefit from upcoming holiday sales, said Cowen & Co. analysts Matthew Hoffman and Jennifer Baxter in a note to clients.

Blackstone Group LP, manager of the world's largest private- equity fund, added 43 cents to $25.71. In its first report as a public company, Blackstone's second-quarter earnings more than tripled as revenue at its four main units increased during a record year for leveraged buyouts. Morgan Stanley began coverage of the stock with an ``overweight'' recommendation.

Retail Sales

In economic reports, U.S. retail sales rose 0.3 percent in July after a 0.7 percent drop in June that was smaller than previously estimated, the Commerce Department said. Economists expected an increase of 0.2 percent, according to a Bloomberg survey.

The government said businesses had enough goods on hand to last 1.27 months at June's sales pace, near the lowest in a year. Leaner inventories put companies in a better position to deal with any slump in demand without slashing orders or production. Inventories increased 0.4 percent in June, matching economists' forecasts, the Commerce Department said, while sales fell 0.3 percent for the first decline since January.

European Rally

Shares rallied in Europe after the European Central Bank added an extra 47.7 billion euros ($65 billion) in emergency money to the banking system and the Bank of Japan injected 600 billion yen ($5.1 billion) into its system.

The Dow Jones Stoxx 600 Index climbed 2.2 percent, its biggest advance since July 2006. London's FTSE 100 Index climbed 3 percent, the most since April 2003. Japan's Nikkei 225 Stock Average rose 0.2 percent.

About 10 stocks fell for every nine that gained on the New York Stock Exchange. Some 1.7 billion shares changed hands on the Big Board, about equal to the three-month daily average.

In other markets, yields on 10-year Treasury notes declined 0.03 percentage point to 4.77 percent. Crude oil for September delivery gained 15 cents to $71.62 a barrel in New York.

The Russell 2000 Index, a benchmark for companies with a median market value of $639 million, declined 1.1 percent to 779.81. The Dow Jones Wilshire 5000 Index, the broadest measure of U.S. shares, fell 0.1 percent to 14,633.36.

American Express Co. (AXP US)

Apple Inc. (AAPL US)
Beazer Homes USA Inc. (BZH US)
BMC Software Inc. (BMC US)
Blackstone Group LP (BX US)
Centex Corp. (CTX US)
Computer Sciences Corp. (CSC US)
EMC Corp. (EMC US)
Exxon Mobil Corp. (XOM US)
D.R. Horton Inc. (DHI US)
Fannie Mae (FNM US)
Freddie Mac (FRE US)
Goldman Sachs Group Inc. (GS US)
Lennar Corp. (LEN US)
MBIA Inc. (MBI US)

Bernanke, Trichet Urged by Markets to Do About-Face on Rates

By Simon Kennedy and John Fraher

Aug. 13 (Bloomberg) -- Credit markets are telling central banks what to do, and it isn't what Ben S. Bernanke or Jean- Claude Trichet had in mind.

Days after reaffirming their interest-rate stance against inflation, central bankers may be forced to do an about-face. Traders are abandoning bets on imminent rate increases in Europe and Japan, and some even speculate the Federal Reserve may execute an emergency cut.

Behind the changed outlook is concern that the steps central banks have already taken -- pumping cash into markets on Aug. 9 and 10 to avert a credit collapse -- won't be enough to keep global growth from stalling. In the days before, Fed Chairman Bernanke, 53, and European Central Bank President Trichet, 64, were saying inflation, not financial instability, was the biggest risk.

``The dramatic moves by many of the world's central banks could imply that we have a whole new ball game when it comes to monetary policy,'' says David Brown, chief European economist at Bear Stearns Cos. in London.

Just before last week's turmoil, Trichet signaled the ECB would lift its benchmark rate in September, and Bernanke indicated the Fed had no plans to cut rates. On Aug. 8, Bank of England Governor Mervyn King, 59, said he didn't see ``an international financial crisis''; investors were merely reappraising risk.

Weakened Positions

Their positions weakened when fallout from the U.S. subprime crisis spread abroad after BNP Paribas SA, France's largest bank, halted withdrawals from three investment funds because it couldn't value their holdings. The Fed, ECB and other central banks added $154 billion to the banking system on Aug. 9 and $135.7 billion on Aug. 10. The last similar effort to prevent rising market interest rates from getting out of hand was just after the 2001 terrorist attacks.

As the new week begins, the risk is the extra liquidity won't keep money flowing through the financial system, threatening to push up borrowing costs on everything from mortgage loans to credit cards and hobbling economic expansions. That may force central banks to rethink their strategies.

``We are closer to central banks not hiking in Europe and Japan and cutting in the U.S.,'' says Kevin Gaynor, head of economics and rates strategy at Royal Bank of Scotland Group Plc in London. ``There's no way the money markets can continue to function like this.''

Reduced Expectations

In Europe, investors reduced expectations for higher rates in the U.K. and the 13-nation euro area. At week's end, traders saw a 70 percent chance that the ECB will raise rates in September, down from 90 percent on Aug. 8.

They also anticipated an 80 percent chance of just one rate increase from the Bank of England this year after betting on two moves as recently as Aug. 8.

The Bank of Japan may be the first to blink when its policy makers convene next week. The chance of the bank's increasing borrowing costs at that meeting fell to 25 percent on Aug. 10 from 75 percent the previous day, according to calculations by Credit Suisse Group.

Federal funds futures indicate investors are betting the Fed will cut its target rate of 5.25 percent by a quarter percentage-point at its Sept. 18 meeting.

``It is not inconceivable that such an easing could occur within days if market conditions continue to deteriorate,'' says Jan Hatzius, chief U.S. economist at Goldman Sachs Group Inc. in New York.

Early Cut

Two-year notes reinforce the idea the Fed will cut borrowing costs before September. The benchmark 4 5/8 percent note due in July 2009 yielded 4.46 percent on Aug. 10, or 0.79 percentage point less than the Fed's key rate.

The last time the gap was so wide was 2001, when the central bank, under former Chairman Alan Greenspan, reduced rates 11 times -- to 1.75 percent from 6.50 percent -- to try to pull the economy out of a recession.

That year was also the last time the Fed lowered rates outside a regularly scheduled meeting, which it did three times in 2001. The first, on Jan. 3, came just two weeks after policy makers had changed their view that inflation posed the main threat to the U.S. economy. Subsequent actions came in April and again in September, the latter to shore up consumer and investor confidence following the terrorist attacks that month.

`Faced With a Crisis'

While the Fed hasn't faced such a challenge with Bernanke as chairman, ``there's no reason to be concerned they'll feel hemmed in when faced with a crisis,'' says Brandeis University economics professor Stephen G. Cecchetti, former director of research at the Federal Reserve Bank of New York.

Still, Bernanke isn't under the same pressures to cut rates quickly that Greenspan faced during his career, which spanned the 1987 stock-market crash and the 1998 Asian currency crisis, as well as the terrorist attacks.

``Bernanke is in a little bit better position to make independent decisions without too much pressure from other parts of the government,'' says Scott Pardee, former head of foreign- exchange operations at the New York Fed and now a professor at Middlebury College in Vermont. ``It isn't one of these things where everyone in the world is calling on the Fed to lower interest rates.''

The Fed may have done enough after adding $62 billion to the banking system on Aug. 9 and 10 and pledging further funds as necessary, says Dominic Konstam, head of interest-rate strategy at Credit Suisse Group in New York. U.S. stock indexes ended little changed Aug. 10 after plunging as much as 3 percent the day before.

`Liquidity Issue'

``The Fed is going out of its way not to cut rates to resolve the liquidity issue,'' Konstam says.

One reason for caution at central banks is the risk that a premature rate cut compromises their effort to contain inflationary pressures stoked by the fastest global growth in three decades.

Charles Goodhart, who sat on the Bank of England's panel between 1997 and 2000, says that's what happened after central banks in Europe and the U.S. cut rates in response to the 1998 currency crisis, only to see inflation accelerate and asset bubbles inflate during the next two years.

``Central banks reduced rates and very quickly wished they hadn't,'' he says. ``The rate decision had to be reversed quite sharply to deal with the major upturn that we saw from 1998 to 2000.''

For now, some economists are loath to make concrete predictions. JPMorgan Chase & Co. says a forecast that 15 of the 31 central banks it covers will raise rates before October depends on ``normal'' market conditions returning.

``We're in a situation where I don't think anyone knows what will happen next,'' says David Mackie, the bank's chief European economist in London.

ECB's Trichet: Paying Great Attention To Market Developments By Granting Appropriate Liquidity

The European Central Bank is paying great attention to the developments in the markets and will continue to do so over the period to come, the central bank chief Jean-Claude Trichet said in an interview to the French daily Ouest France, Saturday.

When asked whether the current global market turbulence, arising notably from property difficulties in the US, is worrying him, Trichet replied that the ECB has been monitoring the market developments ever since it stated so after the Governing Council meet on August 2. By granting appropriate liquidity to the markets challenged with a credit crunch, the bank was sticking to its stance, Trichet noted.

On Thursday, the European Central Bank injected 94.8 billion euros or $130.2 billion at its main lending rate of 4% in a highly unusual move into markets after the overnight lending rates shot up to their highest level in nearly six years in response to some negative cues from the banking sector.

The news that shook European markets came from BNP Paribas, the biggest listed French bank. The banking giant halted withdrawals from three of its funds, citing inability to calculate a reliable net asset value for them due to the US subprime rout.

The ECB followed up Thursday's move with another injection of 61 billion euros at a rate of 4% on Friday in a three-day variable rate tender.

Trichet commented that the euro area economic growth diagnosed several months ago has been confirmed. He also added that IMF revised growth forecast for euro area this year.

In an answer to a question that whether this economic performance was translated into jobs, Trichet said that euro area as a whole generated more than 12 million jobs in the eight years since the formation of the euro in 1999. This is more than the U.S over the same period. The jobless rate in euro area is 6.9%, the lowest level in 26 years. Trichet said those who say that euro acts against employment don't have the figures to support what they are saying.

According to Trichet, “Price stability in itself isn't enough, but it is necessary”. Opinion polls found out that 63 million French people seek to ensure price stability, the central bank chief noted while replying a query linked to French criticism on the ECB's batting inflation.

“The French themselves have been historically attached to price stability, to monetary stability”, Trichet said. Further he said, “It is true of all the great national sensitivities. It's not by chance that the major symbolic figures of right and left - in particular, General de Gaulle and Pierre Mendès-France - were very attached to monetary stability.”

Trichet stated that he was pleased to see new EU nations joining the euro. He said it is the responsibility of the Executive Board and the Governing Council of the ECB to give the best possible monetary policy to vast single economy with a single currency.