Stocks Rebound Despite Big Jump In June Inflation

The S&P 500 Banks Index rose 23 percent, the biggest jump since September 1989. Share prices of Fannie Mae and Freddie Mac more than erased steep losses from Tuesday, with Fannie Mae surging 31 percent and Freddie Mac rising 30 percent.

Shares of Washington Mutual, the largest U.S. savings and loan, jumped 25 percent, while J.P. Morgan Chase and Bank of America, the nation's largest commercial banks, climbed 16 and 22 percent, respectively. Wachovia, which holds more deposits from Washington area residents than any other commercial bank, gained 16 percent.

Wells Fargo reported a second-quarter profit of $1.75 billion, or about 53 cents a share. That was 21 percent lower than its profit in the corresponding quarter a year earlier but exceeded the expectations of most Wall Street analysts, who had predicted a profit of 50 cents a share.

Even more encouraging to investors was the company's announcement that it would raise its dividend 10 percent, a move that reaffirmed a positive long-term outlook.

"It is not just talk," said Doug Roberts of New Jersey-based Channel Capital Research. "They are backing it up with a commitment to pay out more cash -- an important element when capital is scarce in the banking sector."

Many banks have been cutting their dividends in recent months as the credit crisis has sapped their reserves.

The news from Wells Fargo does not necessarily translate across all financial firms, analysts said. Wells Fargo generally avoided the riskiest types of mortgages that have affected firms such as Wachovia, Washington Mutual and Citigroup. The company said yesterday that it was moving to expand as its rivals falter.

"We are open for business and getting lots of it," Wells Fargo president and chief executive John Stumpf said. "We also continued to benefit from opportunities in this environment to gain new business and customers through selective acquisitions."

The Securities and Exchange Commission also helped fuel the rally in financial shares, analysts said. Under criticism for not being more visible during the credit crisis, the agency on Tuesday announced an emergency order aimed at halting an illicit type of trading called "naked short selling."

In a short sale, a trader borrows stock and then sells it, promising to buy it back at a certain time in the future. If the price goes down, the trader wins. If not, he loses. This kind of transaction is not illegal or unusual. But in a naked short sale, cash changes hands but no actual shares do, cutting out the regulated stock exchanges and making the practice illegal.

Beginning Monday, the SEC will crack down on naked short selling of shares in Fannie Mae and Freddie Mac as well as 17 large financial firms that deal directly with the Fed. The effort is intended to bolster investors' confidence in these firms and protect them from abusive trading practices, SEC Chairman Christopher Cox said during a conference call with reporters yesterday.

Naked short selling can exacerbate a sell-off in a bank's shares by sharply increasing the volume of shares being sold, agency officials said. "A run on the bank, which can take hold quickly, would likely be turbo-charged by illegal naked short selling," Cox said. He added that the emergency order was "essential . . . to ensure a fair market in both long and short sales."

The order, which requires short-sellers to show evidence of their transactions, will last 30 days but may be expanded to include all stocks and made permanent.

The shares of many of the firms shielded from naked short selling by the SEC's action had double-digit gains early yesterday. Lehman Brothers, for one, jumped 26 percent.

The SEC is also conducting several investigations into whether malicious traders used short selling and spread false rumors to drive down the share price of Bear Stearns, which nearly collapsed earlier this year. According to people familiar with the probes, the agency is also looking into trading of shares in Lehman Brothers, which has complained that short-sellers were illicitly driving down its share price and unjustifiably undermining confidence in the firm. The SEC has issued subpoenas to dozens of hedge funds in its probes.

Staff writers Renae Merle and Michael Fletcher contributed to this report.