Sun, Jun 11, 2006 - Page 10 News List

Investors wonder if worst is yet to come

JITTERS The NASDAQ and Dow Jones Industrial Average both lost more ground last week and fears over inflation and a cooling economy could extend the losses

AFP , NEW YORK

After Wall Street's drubbing over the past month, the question for investors is whether the market is spooked by irrational fears about the economy, or presaging an ominous picture.

The battering continued on the stock market over the past week, with the Dow Jones Industrial Average sliding 3.16 percent to 10,891.92 and the tech-heavy NASDAQ tumbling 3.8 percent to 2,135.06.

The broad-market Standard and Poor's 500 skidded 2.78 percent to 1,252.30.

The rout on Wall Street and other global stock markets comes amid heightened warnings from the Federal Reserve about inflation running too hot even as the economy is showing signs of cooling.

This picture, outlined over the past week by chairman Ben Bernanke and other central bank policymakers on the Federal Open Market Committee, raised hackles about "stagflation," the dreaded scenario from the 1970s when inflation ran wild but the economy stagnated.

Bernanke's blunt warning on Monday about the "unwelcome" trend in inflation set the tone for the market over the past week.

The new Fed chairman faces a dilemma of continuing the policy of rate hikes after 16 quarter-point increases, or allowing a cooling economy to take care of inflation. Most experts expect another rate hike on June 29, but the picture after that is less clear.

With the latest inflation figures above the "tolerance" level of many economists, "This puts the FOMC in a tough spot because the signs are pointing to a slowing of the US economy which is what 17 rate increases tends to do," said Kevin Giddis, analyst at the brokerage firm Morgan Keegan.

"But, if the Fed feels compelled to take the fight to rising prices, then they run the risk of `overcooking' the effort, plunging the economy into a recession," he said.

As a result of these fears, markets will be watching Tuesday's report on wholesale prices and Wednesday's data on inflation at the consumer level. Tame inflation news would likely spark a rally, while a sharp jump in prices may set off further market jitters.

Some economists say the Fed must use all its weapons to keep inflation in check even if it leads to an economic slowdown.

"We think that what [Bernanke] is trying to do is establish his anti-inflation credentials early on, so that if the Fed wants to pause or ease later it can do so without worrying about inflation expectations worsening," said Lehman Brothers economist Ethan Harris.

"The Fed knows that a growth slowdown can be reversed within a few quarters. By contrast, once inflation becomes embedded in the economy, it can take years to root out," he said.

Al Goldman, chief market strategist at AG Edwards, said Wall Street's fears are mostly unfounded.

"The current market environment remains very unusual as economic statistics are positive but most folks don't buy it," Goldman said.

"The Federal Reserve and interest rates are hurting the mood of investors, but we are close to the end of the rate-hike cycle. At this time, we see little reason to believe that the Fed will not pull off a soft landing," Goldman said.

Bob Dickey, technical analyst at RBC Dain Rauscher, said he believes the market correction has run its course, clearing the way for anther upward movement.

"The markets have been correcting for a month, and although there was some earlier evidence of an approaching low, the reversal action of Thursday's market, on huge volume, has put the exclamation point on the end of the decline and has a high probability of being the low point of the market for the next few months," Dickey said.

This story has been viewed 2274 times.
TOP top