long explaination fed rate cut

NEW YORK — The Federal Reserve came to the stock market's rescue on Friday but unless credit markets remain stable next week, the salvation may prove little more than a brief respite from its late summer sell-off.
"It restores confidence, but we're not out of the woods yet," said Bill Hoskins, managing director of fixed-income research at Mellon Capital Management, in San Franscisco.

Stocks soared Friday after the Federal Reserve did what Wall Street was clamoring for and cut its key discount rate a half percentage point.

The move quelled investors' credit worries at least for the time being and sent the Dow Jones industrials up more than 230 points.


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The Dow Jones industrial average surged 233.30, or 1.8%, to 13,079.08.

Trading was still volatile throughout the day, with the Dow rising more than 320 points in early trading, giving up more than half those gains, and then gaining steam once more. However, the blue chip index stayed in positive territory the whole time. The Dow is more than 6% below its record close of 14,000.41 reached July 19, and fell more than 1% for the week.

The Standard & Poor's 500 index rose 34.67, or 2.5%, to 1445.94, and the Nasdaq composite index rose 53.96, or 2.2%, to 2505.03.

But the rally on Friday was not enough to prevent the major indexes from finishing with losses for the week.

The Dow ended the week down 1.2%, the Standard & Poor's 500 index fell 0.5% and the Nasdaq composite index declined 1.6%.

For the year, though, all three U.S. stock indexes are still higher. The Dow is up 4.9%, the S&P is up almost 2% and the Nasdaq is up 3.7%. Friday's surge helped the S&P recover from the previous two days, when the broad index had given up all its gains for the year.

The Fed — which had resisted lowering rates despite weeks of market volatility, and instead added nearly $120 billion in liquidity into the banking system — cut its discount rate to 5.75% from 6.25%. The Fed acknowledged that the stock market turbulence that has pulled the Dow by hundreds of points a day was posing a risk to economic growth.

"People were kind of baiting the Fed into doing something, and finally they did," said Philip Dow, managing director of equity trading at RBC Dain Rauscher. "The playground monitor finally showed up, and it showed someone cares and someone is bringing rationality into the market."

But the central bank made no mention of lowering its target for the federal funds rate, which has stood at 5.25% for more than a year. The fed funds rate determines the rates that banks charge each other, while the discount rate only covers loans the Fed makes to banks. Many strategists believe the market won't settle down until the Fed lowers the fed funds rate target, considered a more significant benchmark.

If the market doesn't get that rate cut, Friday's gains may not stick, especially since it's likely there will be plenty more news in the coming days and weeks of further troubles in the lending industry. Any mention of problems at subprime lenders or funds that invested in mortgages has sent stocks skidding, and so have worries that tighter credit will stanch the flood of takeovers, which sent Wall Street to new highs earlier this year.

Still, the Fed made it clear this wasn't the only step it would take if the volatility continued. In its statement, the Fed said it "is prepared to act as needed."

Bonds slipped as stocks rose, with the yield on the benchmark 10-year Treasury note rising to 4.67% from 4.66% late Thursday.

Traders who bet on how the Fed might alter rates expect the central bank will lower the benchmark fed funds rate at its next meeting on Sept. 18. Some investors are hoping for a cut in that benchmark rate even sooner.

"If the cut in the discount rate succeeds in restoring confidence, then perhaps there is no need for the Fed to cut rates at the Sept. 18 meeting," said John Lonski, chief economist of Moody's Investor Service. He added, though, that the key line in the Fed's statement Friday was its willingness to take more steps to prevent market volatility from harming the economy.

"That means the Fed is prepared to make a rate cut if stability doesn't come," Lonski said.

Gains were seen in all sectors of the stock market, but financial stocks, which have been battered by the growing problems in mortgage lending, saw particularly heavy buying. Dow component JPMorgan Chase rose 3.4%, while Merrill Lynch and Lehman Bros. rose more than 6%.

The pummeled stocks of mortgage lenders also saw significant increases. The most actively traded stock on the New York Stock Exchange, and one of its biggest percentage gainers, was Countrywide Financial. The home mortgage lender rose $2.48, or 13.1%, to $21.43.

Energy and industrial companies also strengthened notably. The biggest gainers among the 30 Dow companies were aluminum producer Alcoa Inc. and oil company ExxonMobil Corp., which both jumped more than 4%.

Advancing issues outnumbered decliners by about 7 to 1 on the New York Stock Exchange, where volume came to 2.48 billion shares, down from 2.92 billion shares.

The Russell 2000 index of smaller companies added 17.20, or 2.24%, to 786.03.

Crude oil futures rose 98 cents to $71.98 a barrel. Traders have been tracking the path of Hurricane Dean, which is threatening to head west into the Gulf of Mexico, where many oil installations are located.

Major European indexes recovered substantially after the Fed's announcement from steep declines in earlier trading. Britain's FTSE 100 rose 3.5%, Germany's DAX index rose 1.5%, and France's CAC-40 rose 1.9%.

In Asian trading, which closed before the Fed lowered the discount rate, Japan's Nikkei stock average had plunged 5.42% as the yen continued its climb against the dollar. The dollar briefly dipped below 112 yen for the first time in over a year, suggesting that some investors were taking their Japanese currency out of higher-yielding dollar assets.

The dollar was mixed against other major currencies. Gold prices jumped.

Japanese stocks suffered through their worst day in more than seven years as a week-long bloodbath continued in Asian stock markets.

Tokyo's benchmark Nikkei 225 index plunged 874.81 points to 15,273.58 on worries about a global credit crunch and a rising yen that could hammer Japanese exporters. A stronger yen raises the cost of Japanese exports in world markets. Sony's shares lost more than 7%, Toyota's nearly 8%, Canon's more than 9%. The Nikkei has lost 11% since Aug. 9.

The yen's gain was also worrisome because it suggests that some investors may be pulling out of a trading strategy referred to as the yen carry trade — using the Japanese currency to acquire higher-yielding assets elsewhere.

The carnage stretched across the region Friday. South Korea's Kospi Index skidded 3.2% to 1,638.07, and Hong Kong's Hang Seng Index slid 1.4% to 20,387.13. Shares fell 5.9% in Indonesia and 2% in the Philippines.

Asian stocks, some of which hit record levels this summer, started falling last week on fears that the fallout from problems in the U.S. home lending market would contaminate banks and investment firms around the world. Financial firms with exposure to the collapsing U.S. sub-prime mortgage market – loans to borrowers with weak credit histories – have found it difficult to borrow or trade in world money markets.

The impending credit crunch spooked investors already worried that their Asian stocks had reached dangerous heights. "We've had massive profit taking across the region," says Ben Simpfendorfer, Asian strategist for the Royal Bank of Scotland. "It doesn't quite seem like it's over."

But Simpfendorfer notes that economic fundamentals remain strong in Asia. For instance, Singapore reported Friday that exports surged 9.1% last month from July 2006 – but the city-state's stock market dropped nearly 1% anyway. "Things look pretty good," he says. "It's difficult to find anything wrong with the fundamentals."

Early Friday, Japan's central bank injected 1.2 trillion yen ($10.5 billion) into money markets — the third injection this week and triple the amount it injected the day before — in a bid to curb rises in key interest rates.

Central banks worldwide have injected tens of billions of dollars into money markets since Aug. 9, when stocks tumbled because of worries over U.S. subprime mortgage problems. So, far the extra money, meant to ease concerns about a credit crunch, has been unable to halt the global sell-off.

A weaker dollar led some stocks down, as a lower dollar hurts Japanese and European exporters by reducing the value of their overseas earnings when converted back into local currencies. A weak dollar also makes Japanese and European exports more expensive abroad.

Contributing: USA TODAY's Paul Wiseman reported from Hong Kong, Reuters