Good news is bad news again, which means normalcy has returned on Wall Street. Something seemed out of whack back on Jan. 17 when Federal Reserve Chairman Ben Bernanke stood before Congress offering a grim economic outlook and promising rate cuts, and the stock market responded with a heavy selloff. Since when was bad news for the economy viewed as bad news for investors? One staple of the stock market's latest bull run has been Wall Street's laser-focus on the central bank's punch bowl. Any sign of a sluggish economy was usually embraced by investors as a harbinger of more easy money from the Fed and a reason to buy. Little wonder then that the five-year bull market appears to have ended in a nasty credit crunch. When the promise of lower rates was finally overshadowed by the threat of recession in mid-January, it seemed like the markets had given up at long last on the notion that cheap credit could keep the party rolling forever.
Cramer: Fed Cut Helped, but We Need More
Not so fast. In the wake of Bernanke's historic 75-basis-point rate cut -- a surprise move in response to widespread panic in the global financial markets last week -- investors are now banking on an extra 50-basis-point cut after the Federal Open Markets Committee meeting ends on Wednesday. Stocks -- particularly rate-sensitive financial stocks like Citigroup ( C), Bank of America ( BAC) and JPMorgan Chase ( JPM) -- have responded by moving higher since the emergency cut on Tuesday. "The Fed needs to do a 50-basis-point cut or the markets will be very disappointed," says Gail Dudack, chief investment strategist with Dudack Research Group. "I think it would be a huge risk to disappoint the market." With ugly data from the U.S. housing market flooding the airwaves, markets are pricing in a strong likelihood of a half-point cut from the Fed. If the market is right, that means the Fed will have moved 125 basis points lower in little more than a week, which would amount to the fastest move of that size in the modern history of the Fed. Does the drama of such a move match the gravity of the threats to the U.S. economy? Some investors appeared to have second thoughts on Tuesday, after the Commerce Department reported a 5.2% increase in orders for durable goods in December -- the largest gain for that key measure of economic activity since July. Fed funds futures that were pricing in an 82% chance of a half-point rate cut from the Fed on Wednesday retreated to a 65% chance and stocks pulled back as well. Despite gloomier news from the residential real estate market, where home prices are in decline and home foreclosures are spiking, the durable goods data at least raised the possibility that the government's first report on economic growth, due out Wednesday morning, will be higher than expected. A growing chorus of market-watchers says the U.S. economy has already entered recession, but economists on Wall Street are currently expecting the Commerce Department to report that GDP rose 1.2% in the fourth quarter. If that figure comes in higher, investors may start wondering if things are really that bad. "We're talking ourselves into a recession," says Paul Mendelsohn, chief investment strategist with Windham Financial Markets. "What we think may be happening may be a lot worse than what's really happening. I can't imagine an economy here that would immediately need more than 100 basis points in one shot." Mendelsohn predicts the market will be disappointed with the Fed again, and he's not alone. Paul Kasriel, chief U.S. economist with Northern Trust Company of Chicago, says the U.S. probably is in a recession, but he says the Fed will only ease by a quarter-point if it eases at all.