Having held steady on monetary policy for a year now, the
will take the stage next week amid an erratic stock market that has investors fretting about the recent jump in long-term interest rates and an ominous credit collapse at two Wall Street hedge funds.
Traders aren't expecting any changes to Fed policy, so their focus may lie more on the troubling developments for the two
funds. While the issue may ultimately be contained, the debacle returned Wall Street's attention to the subprime mortgage market and how bad the fallout could still become.
"It's clear that
the Fed's not going to raise or lower interest rates, and it's also clear that there's not going to be any material change to the policy statement that accompanies the Fed's decision on Thursday," says Hugh Johnson, chairman with Johnson Illington Advisors. "The market has fully discounted what we're going to see from the Fed, but everyone is braced for what might come out of Bear Stearns."
Two Bear Stearns hedge funds tied to the subprime mortgage market -- the High Grade Structured Credit Strategies Enhanced Leverage Fund and High Grade Structured Credit Strategies Fund -- have been overrun by lenders and investors trying to recover their capital as the value of the underlying bonds owned by the funds dropped sharply.
On Friday, Bear Stearns said it will provide a $3.2 billion infusion to one of the funds, but the broader stock market tumbled amid concerns that the bank's problems might be emblematic of a
broader credit problem looming in the financial markets.
Following last week's big selloff, investors will be looking in the coming week for signs that the Bear Stearns problems won't spread.
"If it appears as though the losses suffered by the lenders to the two funds will be limited, that will be good news," says Johnson. "It would imply that there will not be a serious decline in overall lending. The danger is that big and important lenders will stop lending and credit will dry up, which would spark turmoil in the markets. Bear Stearns is making some effort to get the lenders off the hook, but we're talking about a lot of debt involved in this."
The Bear funds' travails highlight the ongoing pain from the mortgage market amid the national housing downturn. The slump follows years of record-low interest rates in the first half of this decade that sparked a borrowing binge by buyers who now face mortgage defaults.
On Monday, investors will get their latest look at the ongoing housing troubles. The National Association of Realtors is expected to report that existing-home sales in May rose to an annualized rate of 6 million from the 5.99 million reported in April. That still would mark a 12% decline in sales from last year.
The Census Bureau will report new-home sales for May on Tuesday, and economists are expecting an annualized sales rate of 925,000 homes, down from the rate of 981,000 reported for April.
, a major homebuilder, also will be in the spotlight with its quarterly earnings report Tuesday, while
steps to the plate Thursday.
"The trend in housing is not pretty," says Banc of America equity analyst Tom McManus. "From time to time, the numbers can get fooled by seasonal factors or other noise in the sampling that the government data has. The signs of continued downward pressure in this market are pretty broad. Inventory is building, and the implication is that prices will go lower."
Fears that housing slowness and credit issues will crimp consumer spending have been around a while, and while retailers like
have posted recent disappointments in earnings, the sector as a whole has held up.
With that in mind, Tuesday will also bring a fresh reading from the Conference Board on its consumer confidence index for June. Economists are expecting the index to drop to 106 from 108.
On Wednesday, another retailer with exposure to housing will report first-quarter earnings.
Bed Bath & Beyond
has already issued a warning for the period, forecasting earnings between 36 cents and 38 cents a share, below Wall Street's estimate at the time of 39 cents.
Also, the government is expected to report Wednesday that orders for durable goods declined by 1% in May, reversing a 0.6% increase logged in April.
"We're in a gradual downtrend for durable goods," says McManus.
Thursday is Fed day, but it will also bring the third and final reading on U.S. economic growth for the first quarter. After an initial reading of 1.3% growth in gross domestic product, the estimate was later cut to just 0.6%. Economists are expecting Thursday's report to show the pace at 0.8%, and most market-watchers are expecting a strong showing for the second quarter.
Recent signs of a pickup in economic growth have led investors to conclude a rate cut from the Fed will not be forthcoming, and if anything, a rate hike looms. The strengthening economy has also inspired renewed vigilance from the Fed on inflation -- a theme that Chairman Ben Bernanke is expected to reiterate on Thursday.
One thing the Fed has going for it on the inflation front is the recent jump in long-term interest rates, which brought the 10-year Treasury yield back above 5%. But while inflation hawks were pleased to see the end of the inverted yield curve, stock investors found no solace in tighter credit.
"The market went too far too fast and is overvalued, and the sudden rise in bond yields makes it even more overvalued," says Johnson.
On Friday, the National Association of Purchasing Management is expected to report that its Chicago Purchasing Managers' Index, a measure of industrial activity in the Midwest, ticked down to 58 in June from 61.7. Elsewhere, economists expect the government to report that construction spending in May rose 0.2%, personal incomes rose 0.6% and personal spending climbed 0.7%.
"Personal income numbers keep going up, and net worths keep going up," says Phil Dow, equity strategy director for RBC Dain Rauscher. "Consumer spending is a national pastime in the U.S. I don't see the consumer doing handsprings in the months ahead, but neither do I see spending falling off the edge of the earth."