Bulls Pass The Test

Daily State of the Markets 
Monday Morning – February 22, 2010  

Good morning. Although the final tally didn’t look like much on Friday, the bulls received a passing grade on a very big test. If you had told me that the Fed would surprise the markets with a rate hike that was at least three months early, my guess is that traders would have run a sell program or two and stocks would have been hit for big losses.

However, due to some creative thinking over at Bernanke & Co, investors were spared the knee-jerk plunge that almost certainly would have ensued had such an announcement occurred during market hours. Thus, anyone owning any equity positions should probably say a great big “thank you” to Mr. Bernanke for making the announcement after the closing bell on Thursday.

For example, I got the news via text message while out of the office on Thursday. My first reaction was, uh-oh, this isn’t good – maybe I should get to a computer and start selling stocks. But then I realized what time it was and I decided that I’d best do some research into why the move was made before doing anything rash. And in short, this is exactly what the gang at the Fed wanted us to do – to actually think before leaning on the sell button.

There are basically two ways to look at the Fed’s move. The bears say that this is the first of many tightening moves to come and that both the economy and profits will undoubtedly suffer as time goes by. Our furry friends suggest that the economy is not yet strong enough to handle higher interest rates and the move by the Fed will put the nail in the coffin of the jobs market.

However, those that see the glass as half full understand that the Discount Rate is NOT the Fed Funds rates and does NOT impact consumer or corporate interest rates in any way. They understand that the discount window is used exclusively by the banking system. Thus, the bulls understand that what Bernanke and Friends are trying to do is return a sense of normalcy to the banking system.

Before the credit crisis hit, the Fed’s discount window was a last resort for banks to get emergency loans on an overnight basis. However, since the crisis was all about the solvency of the banking industry, the Fed offered up the discount window to all sorts of institutions and extended the maximum length of these emergency loans from overnight to 28 days. So, with the banking industry now back on its feet and making money, the Fed decided it was time to change things back to the way they were before the crisis.

Getting back to the stock market, the fact that the major indices did not take a big dive and actually finished with green screens on Friday makes the point that traders do indeed understand what the Fed is doing and they are okay with the plan. And from where I sit, the “message” from this situation is that the bulls passed the test are may be back on track for a while.

Turning to this morning, the economic calendar is fairly light but the Chicago Fed National Activity Index came in with a gain of 0.2%, which was better than the consensus for a drop of -0.19%.

Running through the rest of the pre-game indicators, the overseas markets are mixed. Crude futures are up $0.20 to $80.01. On the interest rate front, we’ve got the yield on the 10-yr trading higher at 3.79%. Next, gold is moving up by $1.40 and the dollar is higher against the Yen and Euro, but lower versus the Pound. Finally, with about 45 minutes before the bell, stock futures in the U.S. are pointing to a higher open. The Dow futures are currently ahead by about 28 points; the S&P’s are up about 3 points, while the NASDAQ looks to be about 8 points above fair value at the moment.

* Report includes items that make comparisons to the consensus estimate questionable

Wall Street Research Summary

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