The past two days have embodied the action of early 2007 -- dramatic swings up and down for energy and technology stocks. Tuesday was all about commodities and related stocks. Wednesday the focus was primarily on tech stocks, which helped push the Dow Jones Industrial Average to an all-time closing high.

The "out of energy and into tech" trade and its mirror image are occurring because these two sectors provide the volatility that short-term traders crave and then perpetuate. The issue is that traditional high-risk, high-reward sectors like junks bonds and emerging markets have been thoroughly picked over. Emerging markets have averaged 30% to 40% returns over the past four years, while risk premiums in the high-yield market are hitting record tight levels this week.

"That's the story," says Randy Diamond, trader at Miller Tabak. "The fear about the economy is not there, so you don't get movement in the typically risky spots. It's so passe. The opportunities are in the asset classes that provide more volatility" -- which in the current environment means commodities and high-beta stocks.

It was a big pushback into technology stocks that drove the major averages Wednesday. The Dow reached a new closing high, up 0.7% at 12,621.77. The Nasdaq Composite surged 1.4% to 2466.28, and the S&P 500 closed up 0.9% at 1440.13.

It seems the early disappointments from Apple ( AAPL) and Intel ( INTC) last week were really a matter of the market's mood.

By contrast, Wednesday's earnings were greeted with open arms, helping drive the Nasdaq. Sun Microsystems ( SUNW) shares gained 8.1% and Yahoo!'s ( YHOO) shares gained 7.6% on well-received earnings reports. A stellar report from RF Micro Devices ( RFMD) sent its shares up 13%.

Other large-cap Nasdaq staples rebounded from recent routs. Intel, Microsoft ( MSFT), and Cisco Systems ( CSCO) gained over 1% each on the day.

After the closing bell, eBay ( EBAY), which had gained 4.5% in the trading session, was soaring another 8.9% in after-hours trading on its earnings.

Big Board-traded technology supported the S&P 500 as well. Shares of Corning ( GLW) jumped 11% on its report of strong demand for liquid-crystal display TV screens. Shares of semiconductor company LSI Logic ( LSI) and information infrastructure company EMC ( EMC) jumped 3% and 4.9%, respectively.

Energy and materials stocks were not left out. Alcoa ( AA), Exxon Mobil ( XOM), DuPont ( DD), and Caterpillar ( CAT) all helped out the Dow.

Financial stocks also were strong Wednesday as shares of Goldman Sachs ( GS), JPMorgan ( JPM), and Morgan Stanley ( MS) all reached new 52-week highs.

The stock market rallied as the average yield of a high-yield bond hit a relatively low 7.42%, according to Merrill Lynch. "You could call it the medium-yield market," says Brian Hessel, managing partner at Stonegate Capital.

Risk premiums in that market are at their tightest level in 10 years, at an average of 2.63% over comparable Treasury yields. Demand has been so strong that even bonds of companies in bankruptcy, like auto supplier Delphi ( DPHIQ.PK) and fallen energy giant Calpine ( CPNLQ.PK), trade above par, meaning they trade at a premium to their issue price.

"Excessive liquidity has propped up very weak, frail companies," says Diane Vazza, head of global fixed-income research at S&P.

The default rate ended the year at 1.26%, according to Standard & Poor's. The rating agency expects defaults to inch up through 2007, to 2.5% to 3% by the end of the year -- still well below the long-term average of 4.5%. Indeed, cracks are appearing. The number of low-rated companies the ratings agency S&P has listed with a negative outlook or on watch for a possible downgrade in credit quality jumped in January to 27 companies -- its highest level in more than two years.

When will the undertow of liquidity snap back? The possible scenarios are plentiful: A surprise Japanese rate hike and subsequent unwinding of the carry trade could withdraw liquidity from the global marketplace. Emerging market leaders could impose capital controls like those tested in Thailand and investors would withdraw en masse from the more volatile hot spots. A conflict in Iran could cause oil to spike to $100, causing a surge of inflation that would drain liquidity.

These disasters are certainly possible. But like longtime junk bond market expert Martin Fridson, publisher of Leverage World, says: "The world ends much more frequently in the financial press than it does in the financial world."
In keeping with TSC's editorial policy, Rappaport doesn't own or short individual stocks. She also doesn't invest in hedge funds or other private investment partnerships. She appreciates your feedback. Click here to send her an email.