Fed Unexpectedly Cuts Discount Rate

See if this could help to resolve the liquidity crunch and stabalize the frenzinies.

Guys, we're expierencing an extra-ordinary time of the history! Enjoy.

Aug. 17 (Bloomberg) -- The Federal Reserve lowered the interest rate it charges banks and acknowledged for the first time today that an extraordinary policy shift is needed to contain the subprime-mortgage collapse that began roiling the world's financial markets two months ago.
The Fed, in a surprise announcement in Washington, cut the so-called discount rate by 0.5 percentage point, to 5.75 percent. Policy makers dropped language indicating their bias toward fighting inflation, and instead highlighted a rising threat to economic growth. That suggests officials will reduce their benchmark rate when they meet Sept. 18, economists said.
``This telegraphs their intention to cut rates at the next meeting,'' said Chris Rupkey, senior financial economist at Bank of Tokyo-Mitsubishi UFJ Ltd. in New York. ``This discount rate cut calms the market and helps financing.''
This is the first reduction in borrowing costs between scheduled meetings since 2001, and Ben S. Bernanke's first as Fed chairman. Officials kept the benchmark federal funds rate target for overnight loans between banks at 5.25 percent. Policy makers next meet to set the rate on Sept. 18. Futures indicate traders anticipate at least a quarter-point cut.
The Fed's decision ignited a rally in stocks from Europe to the U.S. The Dow Jones Industrial Average rose 143.39 points to 12,989.17 at 2:07 p.m. in New York after advancing as much as 321.9 points earlier. The Dow Stoxx 600 Index of European shares added 2.1 percent to close at 359.65.
Evening Calls
FOMC members convened in a 6 p.m. conference call yesterday, spokeswoman Michelle Smith said in Washington. The Board of Governors then met at 7:30 p.m. to accept requests by the New York and San Francisco Fed banks to cut the discount rate. Meanwhile, Treasury Secretary Henry Paulson spoke with President George W. Bush to update him on market developments, White House spokesman Gordon Johndroe told reporters in Crawford, Texas.
The Fed said while recent reports indicate economic growth continues at a ``moderate pace,'' risks to the expansion have risen ``appreciably.'' The statement is a marked change from just 10 days ago, when officials kept rates unchanged a ninth straight time and reiterated inflation was their ``predominant'' concern.
``Financial market conditions have deteriorated, and tighter credit conditions and increased uncertainty have the potential to restrain economic growth,'' the Federal Open Market Committee said today. ``The committee is monitoring the situation and is prepared to act as needed to mitigate the adverse effects.''
Fading Barometer
Once a key barometer of Fed policy, the discount rate has faded in relevance since 1994, when the FOMC began discussing its federal funds rate stance. This is the first time since then that policy makers changed the discount rate alone. Four years ago, the Fed altered the structure so that the discount rate is now above, rather than below, the benchmark rate.
The discount window can still serve a major role. The day after the Sept. 11 terrorist attacks, the Fed lent banks $46 billion, more than 200 times the daily average over the prior month. It was like opening the ``floodgates of a great dam,'' then-Vice Chairman Roger Ferguson said.
Officials today also extended so-called discount window borrowing, allowing 30-day financing instead of a standard overnight loan. The Fed's board sets the discount rate while the FOMC, which includes the governors and heads of five of the 12 district banks, determines the federal funds target rate.
Among the New York Fed's directors are JPMorgan Chase & Co. Chief Executive Officer Jamie Dimon, Lehman Brothers Inc. CEO Richard Fuld and General Electric Co. chief Jeffrey Immelt.
Strategy Failed
The Fed acted today after its injections of cash into the federal-funds market in the past week failed to ease companies' access to capital. While there were enough funds to drive the effective federal funds rate below the 5.25 percent, credit in other markets was scarce.
The amount of commercial paper outstanding, a key financing tool, fell the most in the week to Aug. 15 since the 2001 terror attacks. Countrywide Financial Corp., the biggest U.S. mortgage lender, tapped an entire $11.5 billion bank line yesterday to get funds.
``This is an attempt to wake the world up,'' said John Roberts, managing director and head of government bond trading at Barclays Capital Inc. ``The system is flush in overnight money. Where the system is stacked up is in term funding.''
The Fed's action reflects alarm that more restrictive lending conditions and volatility in financial markets will deepen the housing recession, weaken employment and erode economic growth. As recently as the Aug. 7 meeting, the FOMC said inflation was still the biggest danger to the economy.
`Volatile' Markets
The Fed noted then that ``financial markets have been volatile,'' though the economy was still expected to continue to expand at a ``moderate'' pace. Today's FOMC statement, approved unanimously by 10 Fed governors and presidents, didn't mention inflation.
Figures released by the Fed yesterday showed that discount lending failed to rise much over the past week after the central bank issued a statement on Aug. 10 saying that ``as always, the discount window is available as a source of funding.'' Total loans outstanding totaled $264 million on Aug. 15, compared with $255 million on Aug. 8.
Today's decision shows policy makers understand ``the various different tools the central bank has at its disposal,'' said Neal Soss, chief economist at Credit Suisse in New York, who worked as an assistant to former Fed Chairman Paul Volcker. ``This is a masterful move because it doesn't actually feed some of the concerns about moral hazard'' of bailing out investors, he said.
Biggest Challenge
The subprime rout is the biggest challenge for Bernanke, 53, since he took office in February 2006. Under predecessor Alan Greenspan, the Fed in 1998 cut interest rates three times as currency crises in emerging markets roiled Wall Street.
In the past week, the Fed and central banks in Europe, Japan, Canada and Australia have been compelled to add money to the banking system. The collapse in demand for securities backed by subprime mortgages has forced at least 90 lenders out of business.
The European Central Bank began adding liquidity on Aug. 9 after BNP Paribas SA, France's biggest bank, was forced to halt withdrawals from three of its investment funds. The Fed followed, along with counterparts from Sydney to Oslo.
Mortgage defaults by Americans with poor credit histories prompted the collapse in June of two hedge funds managed by Bear Stearns Cos. and triggered a worldwide rout in the debt markets. Companies such as London-based Cadbury Schweppes Plc have delayed asset sales, and banks including JPMorgan Chase & Co. and Deutsche Bank AG have been left on the hook for as much as $300 billion of debt they've agreed to provide.
Economists and policy makers anticipate a slower expansion in the second half. For the year, Fed governors and presidents expect growth, on average, of about 2.25 percent to 2.5 percent, Bernanke told Congress last month. The projections are about a quarter-point below the last round in February, mainly on weakness in homebuilding.
See if this could help to resolve the liquidity crunch and stabalize the frenzinies.

Well, there are still 100s of $billions of pseudo-AAA securities out there tied to mortgages that people cannot afford when they reset over the next 12 months. Not clear to me how injecting yet more liquidity solves that little "conundrum".

It does prove that they really are worried. Perhaps this will spark a relief rally, so I can convert the remaining 25% of my 401K to cash.
it is notable that they lowered the discount rate( vs changing target on fed funds)

if you read between the lines, the fed is telling banks that if they want an overnight loan, banks with liquidity issues must reveal themselves to the fed.

another thought: in hindsight, repealing Glass-Stegal is looking like a really bad idea.
Well if you guys see the equity indexex again DJI is battling at 13000. May be we can see the Fed action resulting a plateau at 13000 for DJI and similarly respective levels of oher indexes.

Lets see how Friday 17 Aug ends.

p.s Eddie it woud be great if you can copy the news and paste it here..
hey buddie Nalin, lon...g time no see.

HOw's the latest credit rout affected the CDOs market in your own perspective? in terms of new issuance?
CDOs have lost their face and creditibility. Also if there are no new issuance then then you will not be able to get new tranches after the securtization. So if you want to take the advantage of the having a portfolio of mixed vinatges with higher proportion of the latest ones you will miss out on the same.
Also the Warehouse risk of the tranches of old viatges increases the cost of the making CDOs ..


p.s am fine dude .. whatz up with you ..
I know, all the buyers are on strike/holiday? maybe, lol

Yeah, good dude, let's touch base when returning back to school eyeh(so we don't make here our private penthouse:D)? it's almost the time, looking forward to that.
They are not on holidays... They are looking for a comfortable old age homes .. lol ..

sure dude .. catch u in the school ...
What a Difference a Simple Rate Cut Makes

A follow up article from the Times on the effects the Fed action had

What a Difference a Simple Rate Cut Makes
Published: August 18, 2007

As they have so often in the last few weeks, Wall Street traders came to work yesterday braced for the worst. Stock markets in Asia had taken a blow overnight. There was talk that the nation’s biggest home lender might be facing bankruptcy.

Michael Rutigliano of WJB Capital said it seemed investors were looking for any excuse to rally.

And then the Federal Reserve stepped in, with a rate cut for loans to banks and an indication of further action if the economic outlook worsens. In an instant, the despondency gave way to relief.

“The floor was elated,” said Jeffrey Frankel, the president of the Stuart & Frankel Company, a trading firm at the New York Stock Exchange. The Fed’s move, he said, showed that “our system worked.”

It was the beginning of what turned out to be a positive day. The Dow Jones industrial average rose 233.30 points, to 13,079.08, reclaiming a position above the 13,000 mark, which it had given up on Wednesday. The Standard & Poor’s 500-stock index, which had lost its profits for the year earlier this week, got them back and then some. The index climbed 2.5 percent yesterday to stand up 2 percent since the beginning of the year. The Nasdaq composite had its biggest percentage gain since last August, closing up 2.2 percent.

The problem is that no one knows whether it will hold.

“We’re down 300. Then we’re even. Then we’re up 100. Then down 100,” said Theodore P. Weisberg, a trader with Seaport Securities, which executes transactions on the floor of the New York Stock Exchange. “I don’t think anybody is comfortable.”

After Thursday’s session, when the Dow plunged 340 points only to claw its way back to level ground in the final hour, no one needed to be reminded how quickly things can change. And indeed, yesterday morning’s euphoria looked as if it might be short-lived. The market surged immediately after the opening bell, with the Dow soaring more than 300 points in the first few minutes. By 10:45 a.m., those gains had almost evaporated, with the average up only about 60.

Then the downward drift reversed itself, and the week’s trading came to an upbeat end. But as they look ahead, traders are still trying to divine whether the market has merely hit a speed bump or something more serious.

Michael J. Rutigliano, who directs floor trading for the WJB Capital Group, said the initial bounce in the Dow once the market opened was hardly a surprise to him. It seemed investors were looking for any excuse to rally, he said.

“That’s the power that raw emotion adds to the markets,” he said. “The fear has obviously been abated today, but these markets tend to be very emotionally charged. You’re going to see, I think, over the next days and weeks, swings. Because investors need to try to figure out what this all means.”

Stock prices, which are usually reactive to the news cycle, have been hypersensitive lately to anything that might indicate whether more trouble lies ahead for the economy. This week offered investors a multitude of nerve-testing events.

On Tuesday, it was a profit warning from Wal-Mart and sinking earnings from Home Depot that raised concerns about how healthy the American consumer is. On Wednesday it was speculation from Merrill Lynch that Countrywide Financial, the nation’s largest mortgage lender, could be forced into bankruptcy. On Thursday it was a broad stock sell-off overseas, remarks from the Treasury secretary and more concerns about Countrywide.

Then came the Fed’s announcement before the markets opened yesterday that it was easing its lending rate to banks and acknowledging the impact that the credit squeeze was having on the financial markets and potentially on the economy.

Countrywide itself was one of the biggest beneficiaries yesterday, as investors saw relief from its immediate peril. Its stock shot up 25 percent in early trading and wound up gaining 13 percent, to $21.43, as 105 million shares traded hands.

Within the Wall Street firms handling that trading, the recent upheaval is unnerving for even the most hardened veterans.

“I’m old school,” said Peter P. Costa, a senior floor official for Eckhart & Company, a trading firm. Mr. Costa was at the stock exchange for the 1987 crash, the dot-com bust and the Sept. 11 attacks. He said he did not think the current market troubles were as severe as any of those events, but he is taken aback nonetheless.

“You’re constantly talking to customers who’ve been saying, ‘When’s the best time to buy? When’s the best time to sell?’ ” he said. “And it’s hard.”

The market disorder has interrupted what should be the lazy days of August. At times, the workloads can be overwhelming.

“People feel like they’ve worked three weeks instead of one,” said Andrew Frankel, co-president of Stuart & Frankel. “People are exhausted. This volatility is so tiring.”

This week, the expression “thank God it’s Friday” took on added meaning. “We need a reprieve,” said Jeffrey Frankel, Andrew’s older brother. “Everybody is happy it’s Friday.”

But come Monday, all bets could be off. “Make no mistake about it,” Mr. Rutigliano said, “if on Monday some unforeseen announcement comes out, the dynamic changes.”