Monday, October 29, 2007

Rate Cut Chatter is Loud

This evening we seem to be waiting, with engines running, for the Fed to lower rates on Wednesday. Even though it many trading hours away, there is a lot of chatter on the subject. We might as well chatter on the subject, too, since this appears to be a Big deal to the market.

As we have mentioned, the Fed is clear for 50 bps and maybe even 75 bps but it would not do that right now. The world, read that the markets, expect a 25 bps drop which would make some sense given how the market has set rates recently.

All the chatter is about how the economic reports are showing a deepening housing crisis causing possible lower consumer spending going into the holidays. There are the comments about those who think the Fed should not lower rates because it will have a detrimental effect on the ever declining dollar. These are things we have included in the Update for the entire year, as well as the Fed rate cuts that would happen in the fall, which is now. But...These are not the real reasons the Fed lowers rates.

The reason the Fed lowers rates is because the market tells it to. No, not in so many words but by pressure on the short term Treasury rates. If there is demand for these securities, the rates on them go down. That would be what is happening now with short Treasuries trading in the 4% range. With the Fed Funds rate up around 4.75%, the Fed has room to move.

While they don't have to move, the Fed would disappoint the markets because they expect a cut of 25 bps. We couldn't agree more with the analysts that are using this line, like PIMCO's Bill Gross in an interview with the WSJ last week. The discussion on the rate cut will continue until we get to that magic decision hour.

Monday's market got pretty excited about the rate cut talk and traded up. Part of this can be attributed to the end of the month strength. Now comes the reality checks from the Fed on Wednesday and the jobs' report on Friday. The market prices are at levels that should now start to see some significant resistance. We remain bearish against the Dow's high near 14,200.

Tuesday morning addition: Banks have been wanting a little help with the mess they got themselves into. Now, some are wondering why there is a double standard. Of course we all know why they are. Thanks for the reminder on this article CM.

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