The Fed's Not Done

The market celebrated Thanksgiving with the best weekly advance in 34 years. The 12% gain was the most since 1974. The S&P 500 is now up 19% from its recent low, although still off 43% from its high reached in October 2007. All it took was for the government to put a guaranteed fence around $300 billion of toxic debts from Citigroup (C - commentary - Cramer's Take) and pledge to buy $800 billion of various kinds of paper in the marketplace.

In fairness, the market did withstand some miserable news on durable goods, consumer spending, new home sales, and unemployment claims. But if the Federal Reserve expanding its balance sheet the way it has recently didn't bring about at least a rally from a deeply oversold condition (the S&P is close to an all-time low against its 200-day moving average), then we would have even more reason to worry.

It's my guess the Fed is not done with its balance sheet expansion. The Fed can act on its own and doesn't need anyone's permission. While mortgage rates reacted nicely to the announcement that mortgage-backed securities would be bought by the Fed, other parts of the credit market are still frozen. The "junk" debt -- and remember that 50% of America's companies are below investment grade -- is essentially non-existent for new offerings, and some paper outstanding is trading at yields of 20%. The Fed is probably going to have to step into this market as well.

Last week three big banks - Goldman Sachs (GS - commentary - Cramer's Take), Morgan Stanley (MS - commentary - Cramer's Take), and JPMorgan Chase (JPM - commentary - Cramer's Take) -- sold more than $17 billion in new debt that is guaranteed by the government. If that is what it takes to get the markets moving then Fed Chairman Ben Bernanke is likely to respond.

Former Fed official Vincent Reinhardt was quoted in Barron's as saying, "We're in a very dangerous period, and the Fed needs to be aggressively buying all sorts of paper, including ... collateralized debt obligations, non-agency mortgage backeds and non-investment grade corporate bonds in order to bring liquidity to the markets." Reinhardt and Bernanke collaborated on a 2004 paper that spoke to just this sort of solution. So expect it to happen.

---

Vincent Farrell Jr. is chief investment officer for Soleil Securities Group and a regular guest on CNBC and other national print and broadcast media.

Prior to joining Soleil in August 2008, Farrell was a principal of Scotsman Capital Management. Before that, he was chairman of Victory Capital Management of Cleveland and chairman of Victory SBSF Capital Management in New York. He was a founding partner of Spears Benzak Salomon & Farrell, which was acquired by KeyCorp in 1995. Vince held a variety of positions in his 23 years at SBSF, including chief investment officer, and he served as the portfolio manager on a number of the firm's largest client relationships.

Prior to joining SBSF, Vince spent nine years at Smith Barney as a vice president, sales.

Vince graduated from Princeton University in 1969 and received his MBA from the Iona College Graduate School of Business in 1972.