Dow's Late-Session Rebound Erases Most of 340-Point Loss
By Neil Irwin and Tomoeh Murakami Tse
Washington Post Staff Writers
Friday, August 17, 2007
The stock market swung wildly yesterday as the biggest U.S. mortgage issuer took out emergency financing and two government officials suggested that financial turmoil was unlikely to cause major problems for the broader economy.
U.S. markets ended the day mostly flat, but it was anything but calm on Wall Street. The Dow Jones industrial average was down more than 340 points at midday before regaining most of the lost ground late in the afternoon. Stock prices are now more volatile than they have been at any point since the beginning of the Iraq war in March 2003. The slide was sharp enough to automatically trigger trading curbs at the New York Stock Exchange that are designed to limit wild swings in trading.
"There's just so much fear out there because of so many unknowns," said Wendell Perkins, chief investment officer of Johnson Asset Management in Racine, Wis.
One factor in the topsy-turvy markets appears to be uncertainty about how the government is dealing with the near paralysis of many markets for home mortgages and corporate debt. Officials have taken a restrained approach. Treasury Secretary Henry M. Paulson Jr. said in an interview yesterday in the Wall Street Journal that the global economy remains sound despite the market turmoil, and President Bush received no special briefings on the economy yesterday while on vacation in Texas, according to a spokesman.
The Federal Reserve has also largely taken a wait-and-see posture, injecting cash into banks to the degree necessary to keep a key interest rate at its target level but declining to lower that target rate or make other moves that might calm the troubled markets. Fed officials have said that the fundamentals of the U.S. economy, including the ability of companies to expand and hire, are little changed by the wild swings, a position articulated most recently by William Poole, president of the Federal Reserve Bank of St. Louis.
"I don't see any impact as yet on the real economy or on the inflation rate," Poole said in an interview late Wednesday by Bloomberg Television. The comments were a significant factor in the early losses yesterday and may have even figured into the rebound. Poole said that only a "calamity" would lead the Fed to undertake an emergency rate cut between its regular meetings.
"Then it got so bad in the morning trading that people in the markets started saying, hey, maybe this is a calamity," said James W. Paulsen, chief market strategist of Wells Capital Management in Minneapolis, noting that it was the financial firms that would most benefit from a Fed rate cut that led the late afternoon rebound. Unsubstantiated reports of bailouts or new cash infusions at some of the companies that have been hurt by the credit crunch zipped around financial circles yesterday as Wall Street's version of a junior high school cafeteria apparently fueled the late-day gains.
But there was no shortage of explanations for the fear and uncertainty that surrounded yesterday's markets.
Troubles at Countrywide Financial, which issues more mortgages in dollar terms in the United States than any other company, were a factor in the volatile day. Countrywide has relatively little exposure to subprime mortgages, which are issued to people with weak credit histories, and has been one of the mortgage industry's strongest players through the recent turmoil.
In a sign that credit problems are affecting broad swaths of the mortgage market, however, Countrywide was having so much difficulty reselling even higher-quality mortgages that it drew down $11.5 billion in a line of credit to bolster its cash position. Investors interpreted this as a desperation move. Rating agencies cut Countrywide's credit rating. Since Tuesday's close, Countrywide's stock is down 23 percent.
There was little good news to be found in government data about the economy. The Commerce Department reported that the number of new housing units that builders started work on in July was at its lowest level since 1997, down 6.1 percent from June. And the Federal Reserve Bank of Philadelphia said its index of manufacturing activity in eastern Pennsylvania, southern New Jersey and Delaware fell in August to a level that is at the cusp between expansion and contraction.
Markets abroad were not any better, as foreign stock exchanges fared worse than those in the United States. The FTSE 100 index in London dropped 4.1 percent, and the South Korean market, which had been closed Wednesday for a holiday, shed nearly 7 percent of its value. The dollar reached its lowest value in more than a year relative to the yen (although the dollar began to rise a bit last night), as investors wound down a trade designed to exploit different interest rates in the United States and Japan.
Asian stocks continued to drop early today, the Associated Press reported. Tokyo's benchmark Nikkei 225 was down 2.33 percent in morning trading. South Korea's main indicator fell more than 2 percent before rebounding.
For years, hedge funds and others have borrowed money at Japan's ultra-low interest rates and invested it in the United States, where rates are higher, in effect making money for nothing. But with short-term interest rates falling in the United States, the trade does not work as well. So many investors are trying to get out at once that they are bidding up the price of the yen while flooding the market with dollars.
With investors continuing to pull money out of risky assets and convert it to cash, the Federal Reserve Bank of New York added $17 billion to the banking system yesterday and signaled that such interventions were likely to continue. The bank has repeatedly undertaken such transactions in the past two weeks as it attempts to keep the federal funds rate, the rate banks charge each other for overnight loans, at its target of 5.25 percent.
The New York Fed had company around the world, as central banks in Japan and Australia also added money to their financial systems.
In a statement, the New York Fed said that in the next two weeks, it expects to need to make such moves "on most days." The statement signaled to financial markets that they should not be surprised if the Fed continues to add funds each day to keep money markets stable.
The Dow Jones industrial average closed down 15.69 points, or 0.1 percent, at 12,845.78. It is up 3 percent for the year, but off more than 8 percent from a record high set barely a month ago.
The technology-heavy Nasdaq composite index fell 7.76, or 0.3 percent, to 2451.07. The Standard & Poor's 500-stock index, a broader measure, finished up 4.57, or 0.3 percent, to 1411.27.
Tse reported from New York. Staff writer Michael Fletcher in Crawford, Tex., contributed to this report.
View all comments that have been posted about this article.