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Tuesday, October 14, 2008

Tueday Morning Update: Stocks Ready To Surge But Bonds in Freefall

Stocks are ready to surge behind the news that the Treasury is going to take a significant stake in major U.S. banks.

Wall Street looked set for another rally Tuesday, after the Dow recorded the biggest one-day point gain ever on Monday, as world markets continued to surge.

The U.S. Treasury is ready to inject $250 billion into U.S. banks, mirroring moves by other leading countries that have boosted confidence in financial markets.

The bailout plans sent the Nikkei soaring 14 percent on Tuesday. European markets also extended Monday's rally, with stock markets up between 4 and 5 percent in morning trading.

This should mark the second day in a row of significant gains in the equity markets. Markets are responding favorably to all of the Federal government action, and it appears, the equity markets finally believe that the Federal governments have their arms wrapped around the crisis.

Of course, the news is not all good. Most U.S. Treasuries are on the rise as well. Most mortgage rates should rise dramatically today. This will mark the fourth day in a row that U.S. Treasuries have risen dramatically. U.S. Treasuries are the benchmark for most long term interest rates like mortgages and car loans.

As such, while everyone is cheering on the revival of stocks, there is trouble brewing. Long term lending rates are on the rise. Mortgage rates will likely be a full percentage point higher than they were just last Wednesday by the end of the day. The short term infusion of cash, lowering central bank rates, and the general loose monetary policy are all being read by the market as inflationary in the long term. This is causing U.S. Treasuries to skyrocket. Even for the two days that stocks were dropping, U.S. Treasuries were also going up. (normally when stocks drop money is transferred into bonds causing their interest to go down)

Thus, once the market realizes the terror it has caused to long term rates, I believe all of these short term gains in stocks will be tempered. As soon as the market digests what all of this Fed action has done to long term lending, I believe that the market will give back much of this gain. The housing market will now have to deal with significantly higher interest rates. That will only make housing lending that much more difficult. Experts all agree that stable housing is the key to stabilizing the economy, While all of this short term cash infusion may have calmed the market in the short term, it is likely to have made things worse, much worse, in the long term.

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